One stock that looked like it was dead in the water last year was Lumen Technologies (LUMN -3.17%). The telecom company had a lot of debt, suspended its dividend, its financials looked awful, and the stock had been in free fall. It looked like an incredibly risky investment to own.
Although those problems remain, as with anything these days, artificial intelligence (AI) and any related news can prove to be transformative for a stock -- even a risky one. AI can open up new opportunities for a business and lead to greater sales and profit potential in the future. And news of some promising deals for Lumen on that front has indeed made the stock an incredibly hot buy this year.
However, with shares of Lumen up more than 540% in just the past three months, has the telecom stock risen by too much too quickly, or could it still be headed for an even greater rally in the months ahead?
Deal with Microsoft lights a fire under the stock
What looks to have been Lumen's turning point was the news that Microsoft would be using Lumen's fiber products as it expands AI infrastructure. On Aug. 5, Lumen announced $5 billion in new AI-driven demand (including the deal with Microsoft) and that it was working on other opportunities that could total an additional $7 billion in sales.
As a result of all the excitement surrounding this new potential in AI, Lumen shares have skyrocketed by 540% in just three months. It's now trading at around multiyear highs, with the stock not being at these levels since back in 2022.
Are investors jumping the gun with Lumen?
AI can generate a lot of hype around a stock these days, and Lumen is proving to be no exception. But there are a few things investors need to remember.
The first is that while $5 billion is a significant amount of revenue (especially for a company that reported $14.6 billion in sales last year), what matters is what kind of margin Lumen will achieve. In the trailing 12 months, Lumen has reported a fairly light operating profit of $419 million, and that's part of a troubling, downward trend for the business. Investments in AI can be expensive -- if margins aren't strong from this new demand, it may not provide much of a boost to Lumen's bottom line.
LUMN Operating Income (TTM) data by YCharts. TTM = trailing 12 months.
Another important thing to note is that while Lumen says it is working on another $7 billion in deals, those haven't closed. There's always going to be potential when it comes to AI, but whether that materializes into an actual purchase order or agreement is another thing. Plus, with a possible recession on the horizon and companies potentially more hesitant to spend aggressively on new investments, investors shouldn't assume Lumen's sales will soar exponentially.
Should you buy Lumen Technologies stock today?
If AI proves to be the growth catalyst many investors are clearly hoping it will be for Lumen, it's certainly possible for the stock to rise higher, potentially to the levels it reached in 2022 (more than $10 per share). But the danger is that investors are getting ahead of themselves on this news of AI deals and expecting a lot of growth in the company's near-term future.
It would be prudent to take a wait-and-see approach to determine whether Lumen is really on the right track. This stock has burned investors badly in the past (it's down 43% in five years, even with this recent rally), and before buying it, investors may want to see some proof that the financials are going in the right direction.
While there could be a lot of upside left if you buy the stock right now and things turn out well for Lumen, there's also plenty of risk that the valuation could come crashing down if reality doesn't align with expectations. Unless you have a high risk tolerance, you may be better off waiting on the sidelines regarding this stock.
