Quarterly earnings from Google parent Alphabet showed strong advertising growth. As a result, Alphabet’s stock exploded upwards by $96, or 8.5 percent, in after-hours trading.
Does this signal a new upside push for FAANG stocks and tech stock bull market?
Despite Amazon’s earnings miss, and the threat of a DOJ antitrust inquiry haunting the sector, things look great in the world of digital advertising.
Solid Ad Growth
Google’s ad revenue increased 16 percent to $32.6 billion from $28 billion, and while it isn’t the 20-plus percent growth investors might wish for, the market seemed relieved that the rise was still in the high teens.
This also reversed a trend in revenue growth deceleration that had plagued Google in the past four quarters.
There was also good news as far as traffic acquisition costs, which fell to such a degree that operating margins popped from 18 percent to 24 percent.
Paid clicks jumped by 28 percent vs. last year, but this is also a decline from the mid-60’s last year.
That’s something to worry about.
The reason for worry is because it suggests that advertisers are growing increasingly dissatisfied in terms of the value delivered by advertising on Google search.
Reading between the lines, it’s possible Google knew that paid-click growth would decline, so the company adjusted its traffic acquisition costs.
Google Relief Rally
The reason Alphabet’s stock has popped in after-hours trading is probably due more to relief than anything else. Sure, total revenue grew an impressive 20 percent to $38.8 billion. Yet with Alphabet, the fixation is entirely on advertising since it comprises 84 percent of total revenues.
That there is still strong double-digit growth in the important metrics makes investors relax, as they feared increasing deceleration. That didn’t happen, so everyone piles back into the stock.
But does this mean that Alphabet has seen its best advertising days? Are advertisers starting to move money to other media? It’s possible, and that’s why we must keep an eye on valuation.
Google Parent Alphabet Already Overvalued
The overall problems that this plays into are that both the overall market and tech stocks, in general, are trading at premium valuations.
The Technology Select SPDR Fund owns the biggest growth stock tech names, and that means companies like Apple and Microsoft. On several valuation metrics, the index may be overvalued by 85 percent.
Meanwhile, the overall market is at its third most expensive in history. The 2000 tech bubble and 1929 crash were previous highs.
Profit Already Priced In
So is Alphabet’s valuation at all reasonable? After all, revenue and net income are growing at a great clip.
Backing out net cash, Alphabet stock trades at a market cap of $741 billion on trailing 12-month net income of about $35 billion. That gives it a P/E ratio of 21.5.
Yet analysts only see five-year annualized growth of 11 percent. That suggests Google may be as much as 50 percent to 70 percent overvalued.
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