Microsoft's Stock May Soon Face Sharp Declines

(Note: The author of this fundamental analysis is a financial writer and portfolio manager.)

Microsoft Corp. (MSFT) may have just entered dangerous waters, with its stock breaking two critical technical support levels. That could result in shares falling by nearly 9 percent from its price of approximately $92.50 on March 21. With two levels of support broken, the stock could fall to another critical support level toward the lows of early February. 

We noted in an Investopedia article on March 16 that the bulls might have gotten overexcited about MSFT stock. (See more: Microsoft Bulls May Be Too Bullish.) The shares had been up by nearly 46 percent over the past year at that point. Even with the recent declines from the highs, the stock still isn't cheap, trading at a pricey 23 times one-year forward earnings of $3.94, on an earnings growth rate of only 8.37 percent over 2018 estimates. This gives the stock an expensive PEG ratio of nearly 2.8.

Technical Warning Signs

The first warning sign came when the stock broke its uptrend that started following the steep February declines. The second warning came after the stock broke that uptrend and failed to rise back above the trendline. Now, the stock has fallen below another technical support level at $91.50. The risk increases that Microsoft's stock price could fall toward $84.50, a decline of nearly 7.5 percent from its current price of $91.30. 

Relative Strength Diverging

The relative strength index (RSI) has also been trending lower for months. It peaked at nearly 89 at the end of October 2017, and has been trending lower despite the stock continuing to rise. When an RSI level rises above 70, the stock is considered to be overbought. Even at its current level around 43, Microsoft's stock could fall further because it has not reached oversold levels below 30 yet. (See also: Overbought Or Oversold? Use The Relative Strength Index To Find Out.)

Still Not Cheap

Even if the shares fall to $84.50, which is indeed not a given a very volatile stock market, Microsoft would still be valued, at nearly 21.50 times 2019 earnings estimates. This leaves Microsoft stock vulnerable, because the valuation is still high. 

Microsoft shares have a long way to go before reaching $84.50, but the warning signs are there, suggesting the stock could be heading lower over the short to medium term. 

Michael Kramer is the Founder of Mott Capital Management LLC, a registered investment adviser, and the manager of the company's actively managed, long-only Thematic Growth Portfolio. Kramer typically buys and holds stocks for a duration of three to five years. Click here for Kramer's bio and his portfolio's holdings. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Past performance is not indicative of future performance.