Why Amazon Stock Is Due For a Breakout Now

Here’s an interesting hypothetical about Amazon (NASDAQ:AMZN). Imagine that on July 20, an investor knew everything that was going to happen in the market for the next seven months — except for the price of Amazon stock.

Amazon stock
Source: Ioan Panaite / Shutterstock.com

She knew that the tech-heavy Nasdaq Composite would rally 29%, and the large-cap-focused NASDAQ 100 would rise by 24%. She knew that e-commerce would stay hot, as Shopify (NYSE:SHOP) gained 42% and Wayfair (NYSE:W) 27%. And that the market’s multi-year preference for growth over valuation would remain firmly intact.

She knew that Amazon’s fourth quarter earnings would be an absolute blowout, following a strong Q3. That post-pandemic trends in Amazon’s business beyond e-commerce, like cloud and streaming video, would stay favorable. She even knew that Chief Executive Officer Jeff Bezos would step down.

With all that information, would that investor guess that Amazon stock, over those seven months, would gain less than 2%? I don’t believe she would. And that seems to be the opportunity.

An Impressive Growth Story

For years now, Amazon has looked like one of the most expensive stocks in the market. Until recently, it was usually the most expensive large-cap name out there, or at least close.

Part of that appearance came from the fact that Amazon stock always had a high price-earnings multiple. But the focus on that metric alone missed a few key points, as I’ve long argued. Notably, Amazon’s earnings were depressed by constant investments in the business. More broadly, Amazon hasn’t fully maximized price realization, instead preferring to acquire customers (both in the U.S. and overseas).

Those specifics aside, there was no reason for Amazon to be cheap. This literally is one of the best growth stories in history. This is a massive company that like clockwork has grown revenue at a 20%-plus annual clip. It’s arguably the best retailer in the world – although Walmart (NYSE:WMT) fans might disagree. Its cloud business still has a massive market share lead, against the likes of Microsoft (NASDAQ:MSFT) and Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL), neither of which is accustomed to second place.

This simply wasn’t a stock that investors could look to purchase on the cheap. Amazon never gave the reason a market to offer much of a discount.

Amazon Stock Isn’t Quite Cheap, But …

Certainly, Amazon stock isn’t yet trading at a discount. But after seven months of sideways trading, along with impressive earnings growth, valuation suddenly looks rather reasonable.

Relative to full-year 2020 results, AMZN now trades at about 52x free cash flow, if still about 78x earnings. But, at least based on Wall Street estimates, those multiples should come down in a hurry. EPS estimates for 2022 sit above $66, putting the forward price-earnings multiple below 50x.

None of those metrics make AMZN a value play. But in this market, 49x forward earnings is not terribly out of line.

Meanwhile, that 2022 estimate (admittedly with an enormously wide range) suggests a 25% annualized growth rate over the next two years. There are companies growing closer to 10% trading in the low 30s on a P/E basis. I’d much rather pay up for this kind of growth.

Again, Amazon stock isn’t cheap. But it shouldn’t be, and it’s at least cheaper than it’s been in quite some time.

Blowout Earnings

The question is why. Truthfully, it’s hard to tell.

There are some possibilities. Amazon stock did dramatically outperform the market in the first half of the year with a 49% rally, as investors priced in tailwinds from the pandemic. That rally may have some still-lingering effects.

Competition is a concern. In cloud, Microsoft’s Azure continues to post impressive growth, and there are no shortage of other providers trying to take share. On the e-commerce side, smaller niche players have done impressively well particularly since the pandemic hit, which might raise some questions about how Amazon’s broad approach will be going forward.

Those concerns have some validity. But I’d argue that they’re at least overblown. Amazon’s fourth-quarter earnings report this month shows why.

Amazon’s revenue grew 44% year-over-year in the quarter. It rose 38% for the year.

Bear in mind that the full-year growth came off a 2019 base of $280.5 billion. Amazon added more than $100 billion in sales in a year.

There are 32 U.S. companies that generated that much total revenue in 2020. There are only five retailers to hit that level, if you include only the pharmacy operations for CVS Health (NYSE:CVS).

Amazon isn’t giving that revenue away, either. Operating margins were nearly 6% of revenue in 2020. The idea that the company isn’t profitable at this point is a fiction.

The numbers, across the board, are simply astounding. Yet, for the last seven months, investors have ignored Amazon stock. I don’t believe they’ll do so for too much longer.

On the date of publication, Vince Martin did not have (either directly or indirectly) any positions in the securities mentioned in this article. 

Article printed from InvestorPlace Media, https://investorplace.com/2021/02/amzn-why-amazon-stock-is-due-for-a-breakout-now/.

©2022 InvestorPlace Media, LLC