Amazon.com, Inc. (NASDAQ:AMZN) is rising while others fall, and there’s good reason.
The stock market is spooked by rising interest rates right now. Higher zero-risk yields squeeze the equity risk premium and put pressure on equity valuations. Consequently, despite a lot of companies reporting really good earnings against the backdrop of positive economic data, stocks are falling.
Except Amazon.
Amazon reported a stellar holiday quarter which underscored the company’s dominance in the digital retail and cloud markets, both of which have secular growth prospects. The company’s profitability was also quite impressive during the quarter. Overall, big and profitable growth in secular growth markets had investors forgetting about the rising 10-Year Treasury Yield.
As of this writing, AMZN stock is up more than 6%. The NASDAQ-100 is down about a percent.
There are two things to note here:
- Stocks will bounce back since yields need to go a lot higher in order to really pressure valuations.
- Investors clearly care more about AMZN’s growth than rising rates, implying that AMZN stock is a winner.
Put those two things together, and there is no reason not to buy AMZN stock here.
Lets take a deeper look.
Let’s Look At The Macro Picture Here
Stocks are falling because rates are rising. The rationale here is that as zero-risk yields rise, the spread between those yields and the earnings yields of stocks will squeeze. The squeezing of this will pressure equity valuations.
This argument makes sense until you actually look at the numbers.
Thanks to tax reform and renewed economic strength, earnings growth is expected to be pretty robust over the next several years. Therefore, despite stocks being at all-time highs, the forward earnings multiple for the S&P 500 is just 18.3. That equates to a forward earnings yield of about 5.5%.
The 10-Year Treasury Yield is at 2.85%. That means the spread between the two is still 265 basis points. That is a big spread. In fact, that spread is still near record-highs, according to data from Yardeni.
Granted, the spread doesn’t need to be zero in order for stocks to go down. Back in 2007, the spread was about 150 basis points. But still, a 150 basis point spread is a lot smaller than a 265 basis point spread. And the 2008 meltdown was brought on by an economic recession. It wasn’t a valuation bubble.
Considering that economic data is only improving right now and tax reform will bring some big time benefits over the next 12-24 months, I don’t think we are staring at a recession.
If you think we are staring at a valuation bubble like 2000, then stocks still have a long ways to go. Back then, the 10-Year Treasury Yield was actually greater than the forward earnings yield.
From this standpoint, I think stocks bounce back. That will provide a tailwind for AMZN stock.
Why Amazon.com, Inc. Stock Is Still A Buy
AMZN’s rally against the backdrop of a broad sell-off speaks to the strength of the stock and its underlying growth narrative.
Growth amazingly remains unaffected by scale. Although Amazon keeps getting bigger, its growth isn’t coming down all that much. International retail revenue growth was 22% last quarter. It was 23% in the year ago quarter. Amazon Web Services recorded revenue growth of 44% last quarter. That number was 47% in the year ago quarter.
And in some parts of the business, growth is actually picking up. By a lot. North America retail revenue growth was a red-hot 42% in the quarter. It was just 22% in the year ago quarter. A healthy contributor of that acceleration is Whole Foods, but still, its an exceptional acceleration for what is considered to be Amazon’s most mature business.
That pick-up growth also speaks to how much more Amazon can grow if it successfully penetrates the offline retail world.
Meanwhile, margins continue to pick up. Not across the board, but North America retail margins bounced back strongly in the quarter and AWS margins remain high enough to essentially subsidize the rapid-growth, money-losing international retail business. Eventually, that business will turn a profit — just like the North America retail business went from unprofitable to consistently profitable. Earnings will subsequently soar.
And so will AMZN stock.
Bottom Line on AMZN Stock
The Amazon stock rally against the backdrop of a broad sell-off speaks to the unrivaled strength of Amazon’s underlying growth story.
With growth seemingly still unaffected by scale, AMZN is proving to investors that big growth is here to stay for a lot longer. That means this stock will remain the best-in-class in the high-growth stock category.
I also think other high-growth names will start to bounce back as higher interest rate fears subside. Consequently, AMZN should benefit from a double tailwind over the next several months. That makes the stock a buy.
As of this writing, Luke Lango was long AMZN.
