What goes up must…continue to go up? The continuing stellar performance of the so-called FANG stocks – Facebook, Amazon, Netflix and Google (listed as holding company Alphabet) – presents investors with a conundrum. Will these businesses continue to sweep all before them, driving their valuation ever higher, or will they turn out to have been overbought in the herd mentality that so often grips markets? The tech titans have led the entire market higher for some time. In the 12 months to 21 July, Facebook was up 36%, Amazon 38%, Alphabet 32%, and Netflix 120%, while two more giants, Microsoft and Apple, were up 32% and 51%, respectively. They’re all listed on the Nasdaq exchange in New York.
Some commentators regularly predict that a repeat of the 2000 dotcom boom and bust will engulf the seemingly unstoppable FANG or FAAMG (an alternative grouping including Apple and Microsoft but excluding the smaller Netflix) stocks. Howard Gold’s MarketWatch column, for instance, sees parallels in the dotcom bust of 2000 on the basis that “the biggest winners of the dotcom era were mainstream technology companies making gobs of money” – just like today’s winners. “Still, that didn’t save them from the terrible rout that followed…even big earnings growth doesn't inoculate high-flying stocks against precipitate collapses.” Gold concludes: “Investors should be extremely wary of throwing money at these shares in the hope that they will keep growing right to the sky.”
Still, there’s plenty of fundamental backing for the growth of these stocks as the technology market globally continues to grow strongly. The size of the ‘public cloud market – the demand for remote storage – is predicted to grow annually at 17%, reaching $390 billion by 2020. This has created a ‘veritable gold rush, with each of the major players jockeying for position in technology’s most prominent frontier’, according to analysis by Motley Fool. Google and Facebook are both putting more emphasis on in-house cloud offerings, stepping up the competition with Amazon Web Services, Microsoft’s Azure, and Apple’s iCloud. The major cloud players have left smaller rivals behind, and are well placed in what are rapidly growing markets. “If they continue to sustain their competitive advantage over time, we can see FANG and its other aliases for what it really is: not a fad or a bubble, but a dominant force for years to come,” says Motley Fool.
Here’s our run-down of the FANG stocks:
Positive: Users are still growing strongly, stimulating advertising demand. In its most recent quarter, revenue jumped by 45% year-on-year, profit by 71%, and monthly active users by 17%. Analysts see the Instagram app and video ads as the main drivers of future growth. Facebook generates torrents of free cash flow which it can invest back into the business.
Risks: Revenue growth rates are set to fall as the social network site reaches the limit on the number of ads it can show in its news feed. Investors hate surprises, and any bigger-than-expected slowdown could hit the stock’s rating.
Positive: Earnings per share have smashed watchers’ targets twice already in 2017, driven mainly by the cloud services business. The business generates most of group operating profits, compensating for the ferociously low margins in the retail empire. Earnings are expected to grow by nearly 30% annually over the next five years and to improve profitability.
Risks: Amazon likes to snap up companies which it believes will help it take over the world, like its recent move for Whole Foods. It pays handsomely, and there is always the risk that a future major acquisition will turn sour.
Positive: Netflix has reported its first-ever consolidated profit in its international arm this year, with its mature markets offsetting investments in new territories. In its most recent quarter, it added 5.2 million members, a third higher than Wall Street estimates. Earnings per share are projected to grow by more than 75% a year for the next few years.
Risks: Profitability has been fairly static over a decade despite a sevenfold rise in revenue. If growth targets aren’t met, the stock’s astonishing rating (70 times forward earnings) could be hit. There is mounting competition in the digital streaming space, as Amazon ramps up content spending, and Apple shows interest in original content. Netflix’s CEO, Reed Hastings, says Amazon is a “scary” competitor.
Positive: YouTube and mobile searching helped drive Alphabet's revenue up 21%, ahead of expectations, and earnings in the second quarter of 2017. Revenue is also growing from the Android app store, Google-branded hardware, and cloud services. The group is a massive cash generator.
Risks: The drive to innovate has run into a regulatory wall in Europe, where regulators fined Google £2.74 billion for abuse of its monopoly position in search advertising. Cost per click – what advertisers pay - fell by more than expected in the second quarter of 2017. And the group’s side businesses are still losing a lot of money – $855 million in one quarter alone – which could become a drag on its performance.
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