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Ironically, Amazon Profits By Perpetuating Stock Bubble Myth

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With fears of a stock market bubble spreading, sweatshirts and tee shirts on Amazon Prime depict Federal Reserve chairman Jerome Powell in priestly garb holding a book proclaiming the “recession cancelled” and “stocks only go up.” Fashionable perhaps with the crowd on the r/WallStreetBets Reddit thread where it surfaced, the clothes, ironically, do not fit in with financial reality.

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This table shows different measurements of the “bubbleness” of the largest 10 companies in the Standard & Poor’s 500, ranked by market capitalization. (Market-cap is the number of shares of a company available to be purchased by the public multiplied by the company’s share price.)

By traditional measures, some of these important stocks look expensive, playing into the fears of a bubble. For example, Amazon was recently priced to trade at 73.7 times its expected earnings in 2021. To be fair, that is about 300% higher than the valuation place on expected earnings of the average company in the S&P 500 index. However, Amazon is expecting 2021 earnings will be 60% higher than its 2020 earnings! That’s astonishing earnings growth! It justifies a high p/e.

Moreover, Amazon’s PEG ratio, a valuation metric that factors in expected growth, is 1.2. A PEG ratio of 1.0 represents a perfect correlation between a company's market value and its projected earnings growth. So the 1.2 PEG ratio is reasonable.

It is ironic that you can buy a shirt on Amazon spreading the bubble myth.

10 stocks in the S&P 500 Index, which today comprise about 26 percent of the Index, are these overvalued, as some of the leading stocks clearly were, in retrospect, in the year 2000? Are Apple, Microsoft, Amazon, Google, Facebook—the FAANGM stocks—are these overvalued? And by my calculation, they are clearly not overvalued. In fact, they are very reasonably valued if you simply look at the P/E to growth ratio, the PEG ratio.

So, let's look at Amazon for a second. Stock trading at 74 times earnings. You might say, well, that's a nosebleed multiple, except that Amazon's expected earnings growth over the next couple of years is 60 percent. So, if you divide the P/E ratio by the expected earnings growth, you get 1.2 times. What's the S&P 500's PEG ratio? It's 3.2 times. The S&P's trading at 22.3 times forward earnings. Divide by 7 percent expected earnings growth over the next several years and you get 3.2. So, Apple, Microsoft, Amazon, Google. Google, the highest PEG ratio, at 2. Google just reported absolutely astounding earnings growth. Here's a $1.4 trillion company, market cap, growing earnings at 17 percent per year.

There's nothing fake or phony about those earnings, as opposed to the dot-com era, when many of those companies had a business plan and that was about all they had. These major companies in the S&P 500 today are absolutely astounding when you consider their market cap versus the rate at which they're growing earnings. Anyway, the punch line is, I don't see overvaluation amongst the leading stocks in the index. If anything, they’re all on the buy list [laughs], as far as I can tell, just in terms of the reasonableness of their valuation versus expected earnings growth.

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The Standard & Poor’s 500 stock index closed Friday at an all time high of 3,934.83. The index gained +0.47% from Thursday and is up +1.22% since last Friday’s record-breaking closing price. The index is up +55% from the March 23rd bear market low.

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This article was written by a professional financial journalist for Beacon Financial Advisors, Ltd. and is not intended as legal or investment advice.

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