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Cybersecurity Stocks' Hefty Valuations Demand Caution Ahead of Earnings, Morgan Stanley Says

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Cybersecurity Stocks' Hefty Valuations Demand Caution Ahead of Earnings, Morgan Stanley Says

Cybersecurity stocks' lofty valuations warrant caution ahead of upcoming quarterly results, especially for certain vulnerability management names, Morgan Stanley said in a client note.

Cybersecurity stocks have rallied about 25% over the last month as worries about the impact of artificial intelligence eased, the investment firm said. Vulnerability management providers, in particular, saw their valuations almost double.

Demand for the cybersecurity sector remains healthy, but that still does not justify current prices, Morgan Stanley said.

"Checks have improved for cybersecurity (quarter over quarter), with indications that they should improve further into (the third quarter), leaving us positive (on) the cyber category as a whole," the firm said. "However, with valuations having almost doubled off the bottoms post (the first quarter), and on-cycle names unlikely to show material inflections, we lean more cautious heading into the on-cycle prints."

Morgan Stanley said it is particularly cautious on vulnerability management companies Qualys (QLYS) and Rapid7 (RPD).

On the other hand, the brokerage prefers Palo Alto Networks (PANW) and CrowdStrike (CRWD) that it believes are "best positioned" to benefit from the AI-driven consolidation.

Morgan Stanley raised the price target to $387 from $320 for Palo Alto and to $227 from $172 for CrowdStrike, while reiterating its overweight rating on both stocks.

The firm replaced CrowdStrike with Palo Alto as its "top pick," saying the latter "offers the strongest combination of platform consolidation tailwinds, AI security exposure, and margin expansion at current valuation levels."

Morgan Stanley raised the price target for Qualys to $115 from $96, while it downgraded its rating on Rapid7 to underweight from equal-weight.

"While we agree the category has evolved beyond bug-finding into exposure management, where it is more defensive (versus) AI-natives, we don't believe Rapid7 has executed that pivot successfully enough, as evidenced by just 1.2% revenue growth over the last 12 months," the firm said.

Morgan Stanley upgraded Fortinet (FTNT) to equal-weight from underweight and revised its price target to $133 from $80.

Price: $143.22, Change: $-13.15, Percent Change: -8.41%

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