Here at The Street’s Apple Maven, we are primarily concerned with the iPhone maker and its stock. But it is hard to talk Apple without thinking Big Tech and FAAMG: Facebook, Amazon, Microsoft, and Alphabet (Google).
The markets have been in a near-free fall in the past few days. The Nasdaq has tip-toed around correction territory, defined as a 10% decline from the all-time high. This led me to seeing a potential window of opportunity to buy Apple stock on the cheaper.
But not all Big Tech stocks have been behaving the same. Since Apple peaked, in late January, and began its 17% drop, the rest of the FAAMG group (equal weighted) lost only about 3% of its market value – aided in great part by a high-flying Alphabet. See chart below for a visual reference.
Sitting between Apple and the rest of peer group is Amazon stock, down some 15% from the top and hanging out in correction land with its Cupertino-based buddy. Could shares of the e-commerce and cloud giant also offer a compelling buy-on-dip opportunity at current levels?
The worst stock profile for 2021
First, let’s take a step back. The tech-rich Nasdaq and the technology sector in general have been hurting this year from the market rotation from (1) mega cap, high valuation, and growth to (2) small cap, low valuation, and cyclical.
Amazon fits the description of the first group of stocks perfectly. Shares are worth a whopping $1.5 trillion. The current year price-earnings ratio is a sky-high 62 times. The expected earnings growth between 2021 and next year is an enviable 39%.
No wonder Amazon stock has been so weak: its profile makes it very unpopular with investors during the early stages of economic recovery and rising interest rates.
Buying Amazon on the dip
Now that we have properly justified softness in Amazon shares, let’s see what can be done about it.
First, notice that Amazon is a very volatile stock – about 1.6 times the annual volatility of the S&P 500. Therefore, a 10% to 15% decline from the all-time high is not all that rare. Over the past five years, Amazon has traded in correction territory over one-fourth of the time.
Next, I ask the question: has it made sense historically to buy Amazon stock on moderate dips, such as the current one? After all, “buying low and selling high” should be a good strategy to increase future returns, right?
Well, in this case, yes and no.
The chart below shows that, since the turn of the century, the average forward-year return of buying Amazon on any given day has been nearly 36%. Buying when the stock was undergoing a correction has increased those returns, but not by much: about 38%, on average.
Here’s another problem: buying Amazon on dips has also increased the investment’s volatility substantially, by about eight percentage points for the year. This is the case because moments of correction are associated with higher risk and more unpredictable day-to-day price movements.
For possibly a couple more percentage points of gains, is it worth diving into Amazon while it is in the eye of the storm? This is a question for which each investor will have his or her unique answer.
A look at Amazon’s valuations
Now, let’s turn to valuations. As previously mentioned, Amazon shares trade at a current-year P/E of 62 times. The graphs below introduce two other widely used valuation metrics: price-to-free cash flow and price-to-book, respectively.
Here are some of my key observations of the historical patterns above:
- price/FCF of almost 59 times does not sound like a bargain at first glance. However, the multiple is slightly below where it was this time two years ago (although higher than one year ago).
- For the past six months, price/FCF seems to be finding demand at around 57 times. The metric has failed to dip below these levels in nearly one year.
- price/book of 16 times is a bit of an eyesore. But here again, the multiple is very much as low as it has been in the past 24 months.
Where does this whole debate leaves us?
In my view, Amazon could be a decent buy-on-dip opportunity. Historical returns tend to be slightly higher when shares are bought on weakness. Also, valuations remain high, but modestly de-risked compared to where they were a few months ago.
Having said this, I think that Apple screams “buy” louder than Amazon does today. Of course, this is just my take on the subject. I asked Twitter what they thought would be the best course of action here:
Explore more data and graphs
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(Disclaimers: the author may be long one or more stocks mentioned in this report. Also, the article may contain affiliate links. These partnerships do not influence editorial content. Thanks for supporting The Apple Maven)