For more than 12 years, growth stocks have been talking about them on Wall Street. That’s because historically low lending rates and the country’s central bank’s ongoing quantitative easing rolled out the red carpet for fast-paced businesses to borrow and grow.
But among growth stocks there is a subset of outstanding performers who have truly outperformed the market since the end of the Great Recession. I’m talking about FAANG stocks.
The FAANG have toured the market at large
The acronym FAANG stands for:
From the reference S&P 500 hit rock bottom on March 9, 2009, it gained 555% over the past weekend. By comparison, FAANG stocks have left the broader market in their dust during this same period:
- Facebook: Up 972% since the IPO in 2012
- Apple: Up 5.628%
- Amazon: Up 5.624%
- Netflix: Up to 10.615%
- Alphabet: Up 1,853% (Class C shares, GOOG)
If you are wondering why these companies outperformed the market with such a large margin, it is likely due to their innovation, competitive advantages, and leading market share in their respective industries.
But even among FAANG stocks, there can be some winners and some companies to avoid. As we approach the straight line for 2021 (i.e. the fourth quarter), two FAANG stocks stand out as clear buys while another could be better avoided.
FAANG # 1 share to buy in Q4: Facebook
The first of the group that I don’t think comes close to reaching their full potential is social media giant Facebook.
The biggest objection to overcome with Facebook is its warning that growth will slow in the second half of 2021. This warning has been fairly consistent lately for growth-oriented stocks, as higher vaccination rates have encouraged people to leave their homes. However, Facebook’s conservative outlook does not eclipse its dominance of social media or the growth levers it has yet to pull.
At the end of the June quarter, that company had 2.9 billion monthly active users (MAUs) visiting its namesake site, as well as an additional 610 million unique MAUs visiting WhatsApp and / or Instagram, which Facebook also owns. That’s north of MAU 3.5 billion, or about 44% of the world’s population. Advertisers are well aware that there is no platform on this planet that they can turn to to provide them with a way to reach a wider audience with their message. This gives Facebook incredible ad pricing power in virtually any business environment.
What’s crazy about Facebook is that it is poised to generate over $ 100 billion in ad revenue this year, but has only monetized two of its top four assets. While its namesake site and Instagram generate ad-generated revenue, WhatsApp and Facebook Messenger are not significantly monetized. By pulling on these levers, Facebook’s operating cash flow could reach new heights.
And there’s more. The company aims to become a leader in virtual reality (VR) / augmented reality. Although sales of its Oculus VR devices are not broken down in its quarterly reports, revenue in the “Other” category, which includes Oculus, jumped 85% in the first six months of 2021 to $ 1.23 billion. of dollars.
I just don’t buy into the thesis that we’ll see a significant slowdown in Facebook soon. This makes its forward price / earnings ratio below 23 an absolute bargain.
FAANG # 2 stock to buy in Q4: Amazon
The second FAANG stock to stack for the fourth quarter is the linchpin of Amazon e-commerce.
The story with Amazon is exactly the same as that of Facebook. The company expects growth to slow in the second half of the year as shopping habits change and people leave their homes more frequently due to rising coronavirus vaccination rates. However, with the company dominating two key industries and seeing no slowdown in its higher margin segments, any weakness in Amazon should be seen as a reason to leap forward.
What do I mean when I say dominant? According to an eMarketer report, about $ 0.40 of every dollar spent online in the United States this year is expected to pass through Amazon’s marketplace. That’s more than five times the share of its closest competitor’s online retail sales.
While retail margins are generally tiny, the company has managed to pivot its e-commerce dominance by signing up 200 million people worldwide for a Prime membership. These memberships help Amazon in two ways. First, it encourages members to stay in the company’s product and service ecosystem. But arguably more importantly, it generates fee income that helps the company increase margins and lower prices from traditional retailers.
Amazon is also the clear leader in cloud infrastructure services. Amazon Web Services has annual revenue of over $ 59 billion in the second quarter of 2021. In the first quarter, AWS accounted for nearly a third of global cloud infrastructure spending.
Additionally, Amazon’s growth concerns revolve around its online retail operations. Despite being the main revenue generator for the business, e-commerce generates low margins. Meanwhile, AWS ad revenue and subscription fees are not slowing down and offering significantly higher margins. In short, Amazon’s sales growth might slow down, but its operating cash flow growth is not decreasing – and cash flow is much more important in valuing that stock.
The only FAANG stock to avoid in Q4: Apple
On the other end of the spectrum, I suggest that investors avoid the world’s largest publicly traded company, Apple. Keep in mind that when I say âavoidâ I don’t mean selling it short or even selling your existing long-term holdings. On the contrary, I see an opportunity for Apple to pull out in the coming months, which could provide a more attractive future entry point for patient investors.
Overall, I think Apple is a well-run company. It holds the largest share of smartphone sales in the United States, is one of the most recognized brands in the world, and customer retention is not an issue. In fact, every product launch since as far back as I can remember has encountered lines enveloping its retail stores.
For starters, Apple is in the midst of a long-term transition to becoming a service-oriented company. The increase in subscriptions will help reduce the flat-rate revenue associated with device replacement cycles and should ultimately increase the company’s operating margins.
While this is a great company, there are two reasons to believe its valuation could dip slightly in the fourth quarter. First of all, it’s going to be faced with record iPhone sales comparisons. Apple began selling its first 5G-capable iPhone in the fourth quarter of 2020. Even though it just unveiled its latest 5G iPhone models last week, the big jump in download speeds that consumers and businesses have been expecting ever since. a decade happened last year. While iPhone sales are expected to continue to generate huge operating cash flow, Apple has the difficult task of developing its best-selling product.
The second reason Apple might be worth avoiding in Q4 has to do with taxation. Democrats in the House of Representatives and Senate are looking to pass a bigger infrastructure bill that will almost certainly result in higher corporate tax rates. At a minimum, we are likely to see the top marginal corporate tax rate drop from 21% to 25%.
Although this is a nominally small increase, sales and earnings per share of Apple are expected to increase by only 4% and 2% respectively in 2022, according to Wall Street. This suggests that higher corporate tax rates could actually reverse Apple’s EPS next year. With the company’s worth well above its five-year averages in terms of price-to-sales, price-to-earnings, and price-to-cash flow ratios, this seems like a good bet to trace and provide a more attractive entry point for the company. to come up. buyers.
This article represents the opinion of the author, who may disagree with the âofficialâ recommendation position of a premium Motley Fool consulting service. We are heterogeneous! Questioning an investment thesis – even one of our own – helps us all to think critically about investing and make decisions that help us become smarter, happier, and richer.