Short-term unpredictability is one of the few guarantees Wall Street brings to the table. Since this decade began, the three major stock indexes have ping-ponged between bear and bull markets.
When volatility picks up, both new and tenured investors tend to seek out the safety of industry-leading businesses that offer a track record of outperformance. For the past decade, the FAANG stocks have definitely met this description.
When I say "FAANG stocks," I'm referring to:
- Facebook, which is now a subsidiary of Meta Platforms (META 0.43%)
- Amazon (AMZN 3.43%)
- Apple (AAPL -0.35%)
- Netflix (NFLX -0.63%)
- Google, which is now a subsidiary of Alphabet (GOOGL 10.22%) (GOOG 9.96%)
Image source: Getty Images.
The FAANG stocks do two things really well: Dominate their respective industries and run circles around the broader market. With regard to the former, these five companies bring meaningful competitive advantages and moats to the table.
- Meta Platforms owns the top social media real estate on the planet (Facebook, Instagram, WhatsApp, Facebook Messenger, and Threads). The company's family of apps (Threads wasn't introduced until July) had nearly 3.9 billion monthly active users visit its sites each month during the June-ended quarter.
- Amazon accounts for an astounding 40% of U.S. online retail sales, and its cloud infrastructure service segment, Amazon Web Services (AWS), is No. 1 globally with an estimated 30% share of cloud infrastructure service spending.
- Apple's iPhone has laid claim to around 50% (or more) of U.S. smartphone market share since introducing a 5G-capable version in late 2020. Further, its capital-return program is unmatched among public companies -- around $600 billon in cumulative share buybacks since the beginning of 2013.
- Netflix is the domestic and international leader in streaming, and is behind more original streaming content than any other media company.
- Alphabet's Google has a nearly 90-percentage-point market-share lead over its next-closest competitor in internet search, and it owns the world's No. 3 cloud infrastructure service provider (Google Cloud).
These companies are also outperformers:
Whereas the benchmark S&P 500 has gained a healthy 129% over the trailing 10 years, as of Oct. 3, 2023, the FAANG stocks have delivered returns ranging from 375% to 799%.
However, the outlook for the FAANG stocks does vary significantly. With volatility picking up in recent weeks, one FAANG stock stands out as a no-brainer buy in October, while another is worth avoiding like the plague.
The FAANG stock that's a no-brainer buy in October: Alphabet
Out of the five time-tested FAANG stocks, it's Alphabet, the parent of Google, streaming platform YouTube, and autonomous vehicle company Waymo, among others, which is a no-brainer buy in October.
Every single publicly traded company, no matter how much of a stellar buy it might appear, contends with potential headwinds. For Alphabet, the biggest concern is the health of the U.S. economy in the coming quarters. With a multitude of economic datapoints pointing to slower growth or a potential recession, the company's advertising-driven operating segments could see a sales slowdown. Advertisers are often quick to pare back their spending at the first signs of trouble.
Additionally, faster-growing businesses might choose to lower their cloud-based spending until the economic climate is more certain. This would likely slow the growth rate for Google Cloud.
Despite these very near-term challenges, there's nothing to suggest that Alphabet's long-term growth trajectory has been altered.
As noted, we're talking about a veritable monopoly in internet search. Based on data from GlobalStats, you'd have to go back to March 2015 to find the last time Google didn't account for at least 90% of worldwide monthly search share. There's no question Google is the go-to for advertisers seeking to reach a broad audience or target their marketing campaign. Translation: Alphabet's Google possesses exceptionally strong pricing power during long-winded periods of economic expansion.
While Google serves as a steady cash-flow foundation for Alphabet, it's the company's ancillary operating segments that are far more exciting for long-term investors. For instance, Google Cloud has generated an operating profit in each of the past two quarters after years of losses. Traditionally, cloud services generate considerably higher margins than advertising. If Google Cloud continues to grow by a double-digit pace, which seems feasible given that enterprise cloud spending is still in its early innings, this segment could become Alphabet's leading cash-flow driver within a couple of years.
Don't overlook YouTube, either. The introduction of Shorts (short-form videos often lasting less than 60 seconds) has ballooned viewership and created new advertising opportunities. YouTube trails only Facebook as the world's most-visited social site.
Lastly, Alphabet's valuation is historically cheap, which makes its stock ripe for the picking. As of the closing bell on Oct. 3, 2023, shares of Alphabet could be purchased for just below 20 times forward-year earnings and roughly 14 times forward-year cash flow. Over the past five years, Alphabet has averaged a valuation of 25 times forward-year earnings and 18 times forward-year cash flow.
Image source: Apple.
The FAANG stock to avoid like the plague in October: Apple
However, not all of the FAANG stocks are positioned to be winners in the coming quarters. The FAANG stock I'd suggest avoiding like the plague in October is none other than the United States' largest publicly traded company by market cap, Apple.
To be perfectly clear, I'm not saying Apple is a bad company. It's a dominant force, domestically, in smartphones, and CEO Tim Cook is overseeing the very successful transformation of Apple into a platforms company. Focusing on a variety of subscription services should minimize the sales lumpiness often associated with major physical product replacement cycles, as well as lift Apple's operating margin over the long run.
It should also be noted that Apple has an exceptionally loyal customer base and well-recognized brand. The trustworthiness of the Apple brand and its management team is one of the core reasons why billionaire investor Warren Buffett has nearly 47% of Berkshire Hathaway's $337 billion investment portfolio tied up in Apple stock.
But it's not all peaches and cream for the world's top tech company.
For instance, iPhone 14 failed to wow consumers or investors. Modest initial sales caused Apple to rethink its plan to boost production last year. Through the first nine months of fiscal 2023 (Apple's fiscal year ends in late September), iPhone sales are down almost $6.1 billion, relative to the comparable period in fiscal 2022.
It's a similar story for the remainder of the company's physical products. Mac sales have been hit hardest (down 24%), while iPad (down 1%) and wearable, home, and accessories (down 3%) sales are modestly lower through nine months.
Apple also looks to be somewhat dropping the ball when it comes to artificial intelligence (AI). In June, the company unveiled its augmented reality device known as the Vision Pro. Apple was expected to deliver 1 million units of this practically $3,500 headset in 2024. However, a report from Financial Times, based on internal sources, now suggests Apple is targeting just 400,000 headsets next year.
But perhaps most damning of all is Apple's valuation. For more than a half-decade leading up to the end of fiscal 2018, shares of Apple could be purchased for roughly 10 to 15 times forward earnings. What made the company so attractive is that it consistently grew sales by a double-digit percentage.
As of this very moment, Apple isn't a growth company. Even though its services segment is expanding, revenue declines from all of its physical products are expected to result in a low-single-digit drop in both the company's sales and profits in fiscal 2023. Despite this decline, investors are paying 26 times forward earnings. That's very close to the upper end of Apple's valuation range over the past decade, and all the more reason to avoid Apple like the plague in October.
