Who needs amusement parks when you have the stock market? The investors were go on a roller coaster ride in 2020 due to the pandemic. After the benchmark S&P 500 lost 34% of its value in about a month, it spent the next nine months skyrocketing. The 16% gain the S&P 500 recorded for 2020 has nearly doubled its average annual return over the past 40 years. Not too bad considering everything that has happened.
But there was one group of stocks that absolutely crushed the larger market in 2020, and it has been doing so steadily over the past decade: FAANG stocks.
“FAANG” and “outperformance” can also be synonymous
By FAANG I am referring to:
Last year, in the midst of the steepest recession in decades, these well-known industry titans fell from 31% (Alphabet) to 81% (Apple). Over the past 10 years, the gains for FAANGs are even more impressive, with Netflix, Amazon, and Apple all growing between 1000% and 2000%.
The reason these five stocks have been such an unstoppable force is their overwhelming market share in fast growing industries and their constant drive to innovate.
As an example of this dominance, Alphabet’s Google has controlled between 91% and 93% share Internet search in the past 12 months. Meanwhile, Amazon was behind 38.7% of all U.S. ecommerce in 2020, according to eMarketer. That’s about 33 percentage points higher than the next closest competitor. There is also Facebook, which has four of the six most visited social platforms on the planet.
Because FAANGs generate so much operating cash flow, they are also able to aggressively reinvest in product development and new projects. For example, Apple is swimming so much money that it seems working on an electric car that it plans to launch in 2024.
The only FAANG stock you should collect now
But when I study FAANG, one company stands out as being exceptionally cheap, while another looks relatively expensive.
The FAANG share that I would consider the strongest buy in the bunch is the one mentioned above. e-commerce juggernaut, Amazon.
As reported, eMarketer has pegged Amazon’s share of US online sales at 38.7% in 2020. What’s crazy is that eMarketer also predicts the company will add an additional 100 basis points. to its share in 2021. Almost $ 0.40 of every dollar spent online in the United States will do so. go through Amazon.
Admittedly, the margins associated with retailing are generally low. In the first nine months of 2020, Amazon generated $ 160.9 billion in sales in North America, not counting Amazon Web Services (AWS), but only generated $ 5.7 billion in profit from operation. Internationally, Amazon posted operating profit of $ 355 million on revenue of $ 66.9 billion.
The saving grace of its gigantic retail presence is that it has been able to register more than 150 million people worldwide to a Prime subscription. At a minimum (i.e. based on the annual price of $ 119), this adds up to at least $ 18 billion per year in additional revenue that helps the company downsize its price competitors and ensure that consumers remain loyal to its growing range of products and services.
But the real lure could be the company fast growing cloud infrastructure segment, AWS. It has grown 29% over the prior year period in consecutive quarters, and produces an annual sales rate of $ 46 billion. More importantly, the margins associated with cloud services put retail margins to shame. Although it only accounted for an eighth of the company’s total sales in nine months of 2020, AWS generated $ 10 billion in operating profit. That compares to just over $ 6 billion in operating profit for all of its other businesses combined.
Over the past decade, Amazon has consistently finished each year with a multiple of 23 to 37 times its operating cash flow. But thanks to AWS, Amazon’s operational cash flow has a real chance of tripling by 2023. If Wall Street’s cash flow consensus turns out to be correct, Amazon would be valued at just 14 times its cash flow. operational in 2023. This suggests Amazon’s share price could double and still be at its median premium over the past decade. It’s a godsend that investors shouldn’t pass up on.
The FAANG stock that you’d better avoid
However, not all FAANG actions worth buying. Even though he’s the top performer of the bunch over the past decade, the one I would suggest avoiding at all costs is streaming content giant Netflix.
Obviously, Netflix has done something right. The company’s aggressive overseas expansion, coupled with its early adoption of streaming and focus on original show development, helped it acquire over 195 million paid streaming subscriptions worldwide. That includes 28 million new net paying subscribers since the start of the year, which isn’t too surprising with people stuck at home.
But there are two factors that continue to beware of Netflix as an investment.
First, the other FAANG stocks are absolute cash cows. For example, by 2023, Facebook and Amazon are expected to generate around $ 23 per share and $ 231 per share, respectively, in operating cash flow. By comparison, Netflix has spent so aggressively on international expansion and original shows that it suffers a net cash outflow every year. Even if Netflix manages to break this streak, it will be significantly more expensive, relative to operating cash flow, than the other four FAANGs.
In addition to the assessment, there are clear concerns about the intensification of competition. It’s not that these new contenders necessarily threaten Netflix’s share of the pie, especially since they are likely to significantly slow down the amount of new shares Netflix can get.
Take Walt disney (NYSE: DIS) as a perfect example. A little over a year after the launch of the Disney + streaming service, it’s captured 86.8 million paying subscribers. In 13 months, Disney has hit the high end of its 2024 subscriber forecast. Management now predicts that Disney + will have between 230 and 260 million subscribers worldwide by the end of 2024.
Disney is the most successful recent launch, but HBO Max and other streaming services will give Netflix a chance to attract new users.
I think we’re going to see Netflix move into a more mature (i.e. slower) growth phase, which will focus on more traditional fundamental metrics. This is not a good thing for Netflix.
This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a premium Motley Fool consulting service. We are motley! Challenging 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.