Updated from 10:09 a.m. EDTIntel ( INTC) shares took a tumble Wednesday in the wake of its second-quarter report, recently down $2.43, or 9.3%, to $23.71. While the chipmaker said silicon demand is holding up, both in the U.S. and overseas, Intel stung shareowners with the news that it would have to lower its profit outlook for 2004 -- in part because internal miscalculations led to an unexpected surge in the company's chip inventory. The stock was downgraded to neutral by Prudential, Morgan Stanley and Harris Nesbitt Wednesday, and saw earnings estimate cuts at a host of other brokerages, many of whom had earlier recommended Intel on its gross margin leverage. Other stocks were lower in sympathy, including chip-equipment makers Applied Materials ( AMAT), KLA-Tencor ( KLAC) and Novellus ( NVLS), all of which were recently down over 5%. Advanced Micro ( AMD) was recently down 63 cents, or 4.3%, to $13.87, while the Philadelphia Semiconductor Index was off 4% and the Semiconductor Holders Trust ( SMH) was down 4.8%. "Intel has always been a gross margin-sensitive stock," pointed out Morgan Stanley analyst Mark Edelstone, in a note downgrading the stock to neutral from buy. While declaring overall margins are still healthy and the stock's valuation is reasonable, he doesn't think the stock can outperform its peers unless gross margins are shooting up or it offers the potential for meaningful earnings upside -- neither of which seems likely at this point. Gross margins and earnings leverage appear to have already peaked in the current cycle, according to Edelstone, who lowered his earnings estimates for the remaining two quarters of 2004 by 3 cents each. He dropped his earnings estimate for the year from $1.24 to $1.20, though he actually increased his revenue outlook from $34.4 billion to $34.6 billion. The analyst also brought down his 2005 EPS estimate to $1.35 from $1.45. Morgan Stanley hasn't done recent investment banking for Intel. Prudential's Mark Lipacis, who likewise knocked down his rating on Intel to neutral from overweight, wrote: "We lowered our price target on Intel with our sector downgrade in April, but kept our overweight rating based on the thesis that increasing gross margins could lead to relative outperformance. But with inventories up 50% and with increased reliance on lower margin revenue products, that thesis appears to be no longer valid."