The last time I wrote on Micron (NASDAQ:MU) it was in tandem with Intel (NASDAQ:INTC) while riding down the DRAM cycle. That article was written in September of 2015 - things weren't looking up for Micron, in fact they were still headed down.
I distinctly said I would be using Micron to play the turnaround in the industry. Now granted I played it a just a bit too early by initiating in the $16s and about nine months before the turnaround, but it allowed me to average into my position and bide my time. Mind you this was during the blood-in-the-streets phase of the market so it was not an easy decision to pull the trigger.
Things Looking Up For The DRAM Market
Back to the present, we are seeing the first light of a reviving DRAM cycle as Micron management issued great guidance for next quarter on the back of improving DRAM demand. Take a look at the 13% single day increase Thursday after the stock had already rallied 100% from its single digit lows in May. That should tell you something about the cycle's phase.
In anticipation of this I played a variation of an options straddle and bought the Dec 23 $22 call and the $19 put. I used the put as insurance in case guidance wasn't great and the market decided to punish Micron, which isn't an uncommon thing. But it wasn't necessary as I sold the calls for a 400% profit in the first hour of trading on Thursday after the stock gapped up. Not only was I in the black with my shares but I had just compounded my earnings with a nice little options payday.
Here's where my thesis takes another forward look, much like my call a year ago: I decided to keep my shares as they stand and rolled into Jan 20 $25.50 calls to play the momentum going into next year. If DRAM prices are set to continue rising, especially as this recent quarter didn't take into account the most recent DRAM pricing increases - and therefore momentum - and management is typically conservative in guidance, it means there still is plenty of upside ahead.
After recently witnessing Nvidia (NASDAQ:NVDA) not only crush earnings and make shares surge but sustain its upward trajectory to never before recorded levels, it is prudent to stay the course on semiconductors in this up-cycle and not "play it safe." I've been waiting for this change in market direction for some time and now, after it has changed course, I'm ready to capitalize and see Micron return to levels it traded at the top of the last cycle, and beyond.
With guidance for $0.58-0.68 in earnings next quarter we could easily see a low $0.70s report especially if DRAM prices and further ramping of 3DXpoint have their full effect. Even if earnings were extrapolated from this coming quarter alone it would bring in $2.80 in EPS for the year. MU would be undervalued with a forward P/E of 8.3 whereas at the top of a cycle MU could easily trade for 12.5 earnings. This means MU's fair value is $35.
Further, as other contributors have pointed out, gross margins are the key to understanding where Micron and the DRAM market as a whole are headed. This quarter saw gross margins rise to 25% compared to last quarter's 18%. This latest number lines up with the healthy margins of a Micron headed toward a bullish DRAM and NAND market. Now this is still a far cry from the days of 35% margins at the top of the cycle, however, the key takeaway is it shows us we are at the beginning of a new market upturn. With Micron only at $23 a share, it is time to jump in as guidance is telling us a more of this goodness is coming.
Staying The Course
I may have gotten in the down cycle of the DRAM market too early but I don't intend on getting out too soon. I plan on staying the course with Micron for the coming year and, as I see opportunity, play on some catalyst driven (earnings or momentum) options strategies.
What started as a play on the industry alongside purchases of Intel has become the leader in my semiconductor portfolio. I'm going to let my winner run and reassess when the Micron nears my target.
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Disclosure: I am/we are long MU, INTC.
I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: I am also long MU Jan '17 calls