Is Microsoft an Attractive Investment?

With shares of Microsoft (NASDAQ:MSFT) trading around $40, is MSFT an OUTPERFORM, WAIT AND SEE, or STAY AWAY? Let’s analyze the stock with the relevant sections of our CHEAT SHEET investing framework:

T = Trends for a Stock’s Movement

Microsoft is engaged in developing, licensing, and supporting a wide range of software products and services. The company also designs and sells hardware and delivers online advertising to customers. It operates in five segments: Windows and Windows Live, Server and Tools, Online Services Division, Microsoft Business Division, and Entertainment and Devices. As a mature company, Microsoft is also offering a stable dividend, which is currently yielding around 3.32 percent annually.

Microsoft announced at the Build Developers Conference earlier this week that it has created a free version of its currently little-used Windows mobile operating system called Windows for Internet of Things that can be licensed for free to hardware makers on devices with screens smaller than 9 inches. This is a key move by Microsoft and new CEO Satya Nadella to better compete in the mobile sphere, but will a free Windows OS be able to compete with that other ubiquitous free OS, Google’s (NASDAQ:GOOG) (NASDAQ:GOOGL) Android? Up until this point, Microsoft had charged $10 per device for hardware makers to use its platform. Since the market is completely dominated by Android and Apple’s (NASDAQ:AAPL) iOS, there wasn’t much motivation for anyone to make a product running on Windows anyway.

Now that it’s free, however, more companies may consider using Windows for their products. “Microsoft is evolving its Windows business model to enable partners to offer lower-cost devices in the highly competitive smartphone, tablet and PC categories. Microsoft will offer to hardware partners $0 Windows with services including a one-year subscription to Office 365. With Windows 8.1 Update hardware partners can also more easily build lower-cost machines — such as devices with 1 GB of RAM and a 16GB hard disk drive — without sacrificing the experience customers expect,” the company said in a press release.

T = Technicals on the Stock Chart Are Strong

Microsoft stock has been moving higher in recent times. However, the stock is currently pulling back and may need time to consolidate. Analyzing the price trend and its strength can be done using key simple moving averages. What are the key moving averages? The 50-day (pink), 100-day (blue), and 200-day (yellow) simple moving averages. As seen in the daily price chart below, Microsoft is trading above its rising key averages which signal neutral to bullish price action in the near-term.

MSFT

(Source: Thinkorswim)

Taking a look at the implied volatility (red) and implied volatility skew levels of Microsoft options may help determine if investors are bullish, neutral, or bearish.

Implied Volatility (IV)

30-Day IV Percentile

90-Day IV Percentile

Microsoft options

27.18%

96%

94%

What does this mean? This means that investors or traders are buying a very significant amount of call and put options contracts, as compared to the last 30 and 90 trading days.

Put IV Skew

Call IV Skew

May Options

Flat

Average

June Options

Flat

Average

As of today, there is an average demand from call buyers or sellers and low demand by put buyers or high demand by put sellers, all neutral to bullish over the next two months. To summarize, investors are buying a very significant amount of call and put option contracts and are leaning neutral to bullish over the next two months.

On the next page, let’s take a look at the earnings and revenue growth rates and the conclusion.

E = Earnings Are Increasing Quarter-Over-Quarter

Rising stock prices are often strongly correlated with rising earnings and revenue growth rates. Also, the last four quarterly earnings announcement reactions help gauge investor sentiment on Microsoft’s stock. What do the last four quarterly earnings and revenue growth (Y-O-Y) figures for Microsoft look like and more importantly, how did the markets like these numbers?

2013 Q4

2013 Q3

2013 Q2

2013 Q1

Earnings Growth (Y-O-Y)

2.63%

-3.08%

11.94%

20%

Revenue Growth (Y-O-Y)

14.26%

7.36%

10.17%

17.71%

Earnings Reaction

2.05%

5.96%

-10.85%

3.36%

Microsoft has seen increasing earnings and revenue figures over the last four quarters. From these numbers, the markets have been pleased with Microsoft’s recent earnings announcements.

P = Excellent Relative Performance Versus Peers and Sector

How has Microsoft stock done relative to its peers, Apple (NASDAQ:AAPL), Oracle (NASDAQ:ORCL), Google (NASDAQ:GOOG), and sector?

Microsoft

Apple

Oracle

Google

Sector

Year-to-Date Return

10.88%

-5.24%

3.28%

-5.20%

1.93%

Microsoft has been a relative performance leader, year-to-date.

Conclusion

Microsoft is a technology company that provides valuable software products and services to consumers and companies worldwide. The company announced at the Build Developers Conference earlier this week that it has created a free version of its currently little-used Windows mobile operating system called Windows for Internet of Things that can be licensed for free to hardware makers on devices with screens smaller than 9 inches. The stock has been moving higher in recent years, but is currently pulling back. Over the last four quarters, earnings and revenues have been rising, which has pleased investors in the company. Relative to its peers and sector, Microsoft has been a relative year-to-date performance leader. Look for Microsoft to OUTPERFORM.

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