Given its extreme rally so far in 2018, I can’t believe how well Netflix, Inc. (NASDAQ:NFLX) has held up during the recent bouts of volatility in the broader market. It’s got me taking Netflix stock much more seriously.
Consider this: the S&P 500 fell 10% in about 10 days in early February. Fresh off a strong earnings result and up more than 40% for the year, NFLX stock didn’t even close below its 21-day moving average during the decline. Sure it came off its highs, but it was still up massively on the year.
Then, in March, we’ve seen trade-war concerns weigh on the broader market. We’ve also seen Facebook Inc (NASDAQ:FB) — a component of FANG, for which Netflix is a part of, along with Amazon.com, Inc. (NASDAQ:AMZN) and Alphabet Inc (NASDAQ:GOOGL, NASDAQ:GOOG) — suffer steep declines on worries over user data. Despite FANG selling pressure and the broader market decline, NFLX stock continues to hold up.
Based on Netflix stock price today, shares are still up an impressive 57.5% so far in 2018. Is the optimism deserved?
Netflix vs. the World
Netflix’s business doesn’t suffer in a trade war. It doesn’t feel the repercussions of Facebook’s woes and, in my opinion, doesn’t suffer from a recession. That doesn’t make NFLX stock recession-proof, as investors will be selling off their winners to raise capital for other areas in their life.
But the point remains the same: Netflix has done an incredible job creating an ecosystem that millions of people want in nearly any environment. Netflix is a cheap entertainment option in good times and an affordable luxury when times are bad. As the company gains momentum overseas, Netflix will replicate its success around the world.
Last quarter the company had 118 million subscribers globally, a figure that continues to grow. Almost half (~46.5%) of those subscribers were in the U.S. Domestic subs continue to grow — and that’s despite the streaming platform raising prices by $1 per month last year.
I still believe Netflix undercharges for its services. While that may equal lost revenue and lower cash flow in the short-term, I think it helps rope in customers for the long term. In other words, it makes Netflix “stickier” and it’s more likely that a customers will stick with the service when it eventually raises its prices again.
Given its potential, it’s no wonder Netflix is quickly becoming the most valuable entertainment company in the stock market. It’s just a stone’s throw away from overthrowing Walt Disney Co (NYSE:DIS) from a market-cap perspective. That’s in spite inferior financials, because its growth prospects are so promising.
Growth Isn’t Free, Though
While Netflix stock continues to enjoy impressive gains, the company’s bottom line isn’t enjoying the same luxury. Management said it expects to spend about $8 billion on content this year.
There is a love-hate vibe with this strategy.
On the one hand, it’s what Netflix has to do if it wants to get away from the steep licensing fees it currently pays to content companies. Second, as companies like Disney look to their own streaming alternatives, it’s imperative that Netflix has its own quality content for viewers.
It’s pretty simple: no content equals no subs.
On the other hand though, we’re talking about $8 billion — in one year! Keep in mind that analysts only expect revenue of $15.8 billion for the year. While that’s impressive growth from last year, up 35%, roughly half of that will go right to content costs. That doesn’t include marketing, SG&A, maintenance and other expenses. Or taxes.
As a result, Netflix’s free-cash flow will suffer a massive blow in 2018.
Trading Netflix Stock
So is Netflix stock a buy or sell? I personally have a really hard time buying Netflix stock right now. I know it’s likely to hold up in the event of continued volatility and should FANG catch a bid, I’m sure NFLX will be returning to its prior highs sooner rather than later.
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Looking at the charts show why I’m hesitant on NFLX stock — the performance has been off the charts! I used a Fibonacci retracement, since any trend-line would clearly be steep to maintain. In this sense and with Netflix now below its 21-day moving average, a pullback toward $280 seems reasonable.
That would take us to the 0.382 retracement level and it’s currently where the 50-day moving average rests. Either of these levels should provide Netflix stock with at least a temporary bounce that nimble traders can take advantage of.
Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell holds a long position in DIS.
