Amazon.com (NASDAQ:AMZN) stock continues to defy predictions of bears like myself and even some of the more optimistic bulls. Fears of high valuations and even President Trump’s attacks on the company have not stopped Amazon’s march toward a $1-trillion market cap.
However, this run-up creates problems for Amazon on two fronts. One remains the bear case. The other case involves whether the bull case justifies the risks.
AMZN Stock Will Probably Break Records
What else can I say about AMZN stock? I keep predicting doom, and Amazon continues to achieve record highs. The market cap has exceeded the $960-billion level as of the time of this writing. When it comes to trying to justify the multiple on AMZN stock, investor psychology is all that remains. This bothers me as I like to have more of a mathematical basis for my forecasts.
That said, given the psychology, I see a very short-term bull case here. I predict Amazon will exceed the $1-trillion market cap. I also think it will surpass Apple (NASDAQ:AAPL) to claim the title of world’s largest market cap.
Still, I Do Not Recommend AMZN Stock
As Amazon and Netflix (NASDAQ:NFLX) have shown, the market likes to reward strategic vision. At this multiple, few can question the level of Amazon’s rewards.
However, as Vanguard founder John Bogle said, “reversion to the mean is the iron rule of financial markets.” It may take years, but AMZN stock will eventually revert. Also, in a previous article, I mentioned how Cisco (NASDAQ:CSCO) lost 90% of its value two years after reaching the world’s largest market cap with an elevated price-to-earnings (PE) ratio.
Most analysts have argued against measuring Amazon using its PE ratio. That makes sense to a degree. However, even the most valuable entities in the world carry only so much value. Despite nearly equal market caps, analysts predict Apple will earn 6.7 times as much profit as Amazon.
Bull Case for AMZN Stock Looks Increasingly Risky
Admittedly, Amazon has shown impressive earnings growth. Analysts predict about $8.46 billion in earnings for this year, up from $3.03 billion in 2017. They also forecast an average of 45.93% earnings growth per year over the next five years.
Based on these earnings, I see arguments for the bull case that sound logical. In his latest Amazon article, Luke Lango makes a case that seems reasonable for a $2-trillion market cap for Amazon by 2024. Interestingly, his analysis would take the PE ratio of AMZN stock down to about 25, moving Amazon’s PE much closer to the mean.
At current levels, that also means buyers would approximately double their money in Amazon stock within six years. Seeing one’s investments double in value every six years slightly exceeds the long-term S&P 500 average of around 10%.
However, many stocks should achieve an equal or larger growth rate in that time. Even a noticeable percentage of mutual funds and ETFs can produce such a long-term return. Most trade at a PE ratio well below the 113 forward PE that AMZN stock currently supports. Even if I remain wrong on this stock, why take the risk?
Final Thoughts on AMZN Stock
AMZN stock investors have to ponder both the high valuation and the remaining bull case should they stay in the stock. The equity currently trades at a forward PE of 113. As earnings growth falls to an estimated 45.93% average, they have to wonder whether such growth justifies its current valuation.
Psychology will remain the primary driver of AMZN stock for the foreseeable future. Given those feelings, I cannot rule out Amazon stock maintaining its rate of appreciation for months or even years to come.
However, if that psychology shifts, little will remain to justify the stock price, and the plunge could become brutal. No matter what happens with AMZN stock, I cannot see the risks justifying any potential rewards.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.
