HSBC downgrades ARM Holdings ahead of Q1 earnings: Should you sell or hold?

In a recent shift that has stirred investor sentiment, HSBC has downgraded ARM Holdings PLC (NASDAQ: ARM) from ‘Hold’ to ‘Reduce’.

The new price target for ARM is set at $105, down from the previous $100, amid concerns about the company’s high valuation and a slowing market for Android smartphones.

This downgrade comes just as ARM is preparing to release its Q1 earnings report on Wednesday, with the stock currently trading at $149.

This pricing indicates a potential downside of approximately 30%, reflecting apprehensions about the company’s premium valuation, which stands at 72 times its fiscal 2026 earnings.

Analysts remain bullish on ARM

Despite HSBC’s cautious stance, other analysts remain bullish on ARM’s prospects.

Morgan Stanley recently upgraded the stock to ‘Overweight’ from ‘Equal-Weight’ and lifted the price target to $190 from $107, focusing on ARM’s expanding role in AI at the edge of network technology.

M Science spotlighted ARM positively due to its role in powering Amazon Graviton CPUs, causing the stock to rally 5% following this acknowledgment.

Analysts at Bank of America also increased their price target on the stock recently, noting ARM’s potential as AI technology permeates PCs and smartphones.

BofA also noted the shift toward on-device AI applications as a significant growth driver, reflecting a bullish sentiment with a revised price target of $180, acknowledging ARM’s strategic position in the evolving semiconductor landscape.

ARM’s Q1 earnings expectations & business fundamentals

Analysts’ consensus ahead of the earnings report pegs ARM’s Q1 GAAP earnings at $0.17 per share on revenues of $906.5 million, compared to the previous year’s GAAP earnings of $0.10 per share on revenues of $675 million.

ARM’s fundamental business health remains robust. The majority of ARM’s income stems from IP licensing to heavyweight tech companies, with significant contributions from ongoing contracts with Apple, Nvidia, and Qualcomm.

Significant revenue streams are anticipated from AI data centers and edge computing solutions, with ARM’s Neoverse platform poised to capture growing market segments.

ARM holds approximately $3 billion in cash and short-term investments with no debt, positioning it well for aggressive R&D investments and strategic acquisitions. Despite excellent gross margins, operational margins have recently contracted due to increased R&D expenditures, highlighting a reinvestment phase aimed at technological advancements and market expansion.

ARM’s current valuation

ARM’s current valuation presents a complex picture. The stock’s premium is reflective of its strategic positioning within high-growth areas like AI and global tech infrastructures. Compared to its peers, ARM’s forward P/E ratio significantly exceeds industry averages.

ARM’s price-to-sales ratio also remains high relative to competitors, indicating a market expectation of continued high revenue growth and expansion in new tech domains.

With its strategic investments and market positioning, ARM is poised to either validate its lofty valuation through sustained growth or adjust to more tempered market expectations.

As we pivot from these fundamental insights, a closer examination of ARM’s stock price trajectory through technical analysis will further clarify the potential directions for its stock performance in the coming quarters.

Strong on long-term charts, weakness in short-term

ARM made a terrific debut on the NYSE last year with shares climbing up more than 30% from the IPO price of $51 within a few days of the IPO. However, they entered a downtrend soon after, crashing to below the IPO price by the end of October.

ARM chart by TradingView
That downtrend lasted only a short while and the stock entered an uptrend in November last year that has lasted until now and seen it more than triple since then.
Despite the recent retracement the stock has seen from above $170 to below $150 it continues to display bullish momentum on the long-term charts. So, investors who are bullish on the stock can consider buying it below $150 with a trailing stop-loss below its 100-day moving average.

If the short-term momentum again flips to bullish, we can the stock making fresh all-time highs soon.

Since the stock is showing weakness in the medium and short-term charts, traders who are bearish on the stock ahead of Q1 earnings can make a bearish bet but must refrain from shorting the stock directly. Instead, they can buy ARM’s $140 Puts expiring on August 2 below $5.

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