To say it's been a bad year for investors might be an understatement. The bond market is working on its worst year in history, while the widely followed S&P 500 delivered its worst first-half return in over a half-century.
But when heightened volatility and uncertainty arise, investors often turn to companies that have a history of winning. Perhaps no group of companies stand out more than the FAANG stocks.
Image source: Getty Images.
When I say "FAANG," I'm referring to:
- Facebook, which is now a subsidiary of parent company Meta Platforms (META -4.13%)
- Apple (AAPL -1.22%)
- Amazon (AMZN -2.56%)
- Netflix (NFLX -9.09%)
- Google, which is now a subsidiary of parent company Alphabet (GOOGL -1.23%) (GOOG -1.10%)
Aside from vastly outperforming the major U.S. stock market indexes, FAANG stocks are industry leaders. For instance, Amazon has the most dominant online marketplace and Meta Platforms' social media sites bring in the most unique monthly active users. It's these competitive edges and the collective history of innovation that have made FAANG stocks popular buys during any stock market weakness.
But even among the FAANGs, there's a hierarchy. At the moment, two FAANG stocks stand out as amazing deals that can be bought hand over fist, while another looks entirely avoidable.
FAANG No. 1 to buy hand over fist: Alphabet
The first FAANG stock begging to be bought right now is Alphabet, the parent company of search engine Google, streaming platform YouTube, and autonomous vehicle company Waymo.
The most glaring issue for Alphabet is that the lion's share of its revenue derives from advertising. With interest rates rapidly climbing, there's an increased likelihood of a recession on the horizon. Advertising spending is often one of the first things to be hit when the winds of economic weakness begin blowing. The company's third-quarter operating results certainly demonstrated these struggles, with year-over-year revenue up just 6%, or 11% if you exclude currency movements.
But this only tells part of the tale. While short-term struggles shouldn't be swept under the rug, it's important to understand the context surrounding this advertising slowdown. Though recessions are an inevitable part of the economic cycle, they're often short-lived. By comparison, economic expansions usually last years. Advertising may ebb and flow, but an ad giant like Alphabet spends far more time in the sun than under storm clouds.
A big reason for this is its absolutely dominant search engine, Google. Data from GlobalStats shows that Google has sustained at least a 91% global share of internet search -- I repeat, a 91% global share of internet search -- looking back more than two years. Advertisers understand that Google offers them the best chance to reach as many consumers as possible with their message.
But when it comes to long-term growth, YouTube and Google Cloud may take the cake. YouTube is the world's second-most visited social site, behind Meta's Facebook, and looks to be on pace to generate $29 billion in full-year ad revenue. Meanwhile, Google Cloud is pacing more than $27 billion in annual run rate sales and delivered 38% revenue growth in the September-ended quarter. By mid-decade, Google Cloud could grow into a serious cash-flow driver for the company.
Opportunistic investors can buy shares of Alphabet right now for about 9 times Wall Street's forecast cash flow for the company in 2024. That would be well below the company's historic multiple to cash flow.
Image source: Getty Images.
FAANG No. 2 to buy hand over fist: Meta Platforms
The second FAANG stock to buy hand over fist is arguably the one that's fallen most out of favor with Wall Street and everyday investors: Meta Platforms.
One reason skeptics aren't thrilled with Meta is its advertising reliance. A little over 98% of the $27.7 billion in sales Meta generated in the third quarter derived from ads. Just as Alphabet has been weighed down by weaker ad spending, so will Meta -- at least in the short run.
The other issue for Meta Platforms is CEO Mark Zuckerberg's insistence on spending aggressively to develop metaverse innovations. The metaverse is the 3D virtual world where connected users can interact with each other and their environments. Reality Labs, the company's metaverse operating division, has lost a whopping $9.4 billion through the first nine months of 2022, and there's no sign spending will slow anytime soon.
But, once again, this skepticism tells an incomplete story. While these headwinds are tangible, they overlook core catalysts and advantages for Meta that haven't changed, despite its recent weakness.
For example, Meta remains as dominant as ever with its social media assets. Facebook, Facebook Messenger, WhatsApp, and Instagram are consistently among the most-downloaded social apps worldwide. What's more, Meta recognized 3.71 billion unique monthly active users across its family of apps during the third quarter. This equates to more than half of the world's adult population visiting at least one Meta-owned site each month. Though ad pricing is weak at the moment, advertisers have previously demonstrated a willingness to pay premium prices to reach Meta Platforms' billions of users.
The other important consideration is that Meta's balance sheet gives it the flexibility to invest in what could very well be a multitrillion-dollar opportunity. When the curtain closed on September, Meta had close to $32 billion in cash, cash equivalents, and marketable securities, after subtracting all outstanding debt. Even with a lot of the company's free cash being diverted to Reality Labs, Meta should generate north of $16 per share in operating cash flow this year. Paying less than 6 times operating cash flow for a dominant business like Meta Platforms would be historically cheap.
The FAANG stock to avoid like the plague: Netflix
On the other side of the aisle is the FAANG stock investors would be smart to avoid like the plague: media giant Netflix.
Netflix has obviously done some things right to reach a $116 billion market cap. Its pivot to streaming content more than a decade ago paved the way for it to grab the leading share of the U.S. streaming market. Since making this pivot, Netflix's worldwide subscriber count has surpassed 223 million, as of the latest quarter.
The company also has exceptional pricing power, which is due to its growing content library and lengthy list of proprietary shows. Being able to pass along price hikes without losing subscribers is a powerful tool to increase revenue and profits.
But Netflix wouldn't be a stock to avoid if it didn't have clearly defined headwinds that could stunt its future growth potential. Arguably the biggest issue for Netflix is the relatively low barrier to entry for streaming services. While cord-cutting continues to favor a push toward streaming, there are more choices than ever for consumers, and that's significantly stunted Netflix's subscriber growth.
Maybe the biggest red flag is how quickly Disney+ from Walt Disney gained ground on Netflix. Less than three years after launching the Disney+ streaming service, more than 152 million people worldwide have subscribed. Walt Disney reached subscriber levels that took Netflix over a decade to achieve, and the House of Mouse arguably evokes much stronger emotional engagement and connection with its proprietary content and characters than Netflix can with its own content.
The other concern for Netflix is its long history of burning cash. Expanding into international markets isn't cheap, but it's an absolute necessity when competition is fierce in the United States. Unfortunately, this aggressive spending has pushed Netflix to 58 times Wall Street's forecast cash flow in 2022 and 43 times forecast cash flow in 2023. That makes Netflix the priciest FAANG stock, relative to operating cash flow, by a considerable amount.
