Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
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Investors will fall in love with technology stocks again
Peter Garnry
Chief Investment Strategist
Summary: The earnings from the US technology quartet of Apple, Amazon, Google, and Facebook were strong and much better than expected. Apple disappointed by not providing an outlook, Amazon triggered nervousness of the relative lower market share in cloud infrastructure and Facebook disappointed on its forecast for daily and monthly active users across its markets in the US and Canada. Google on the other hand delivered so strong results that investors were excited. However, all earnings releases were in aggregate very strong and investors love affair with US technology stocks is not over yet as Nasdaq 100 is still offering strong cash flow generation and a clear growth trajectory.
It has been a love affair between investors and US technology stocks for around a decade, and in recent years an intensive one turbocharged this year by their resilience to the ongoing corona pandemic. Yesterday’s earnings from Apple, Amazon, Google, and Facebook were broadly strong but the market decided that good was not good enough except for the case of Google. The disappointment begs the question whether the love affair will end in a breakup and other segments of the equity market will now swing into focus.
Our verdict of the US tech quartet
Apple, Amazon, and Facebook shares were all down in extended trading post their earnings releases with Apple taking the biggest headlines as iPhone sales missed estimates, China revenue was down 29% y/y, and management refraining from providing any guidance for the current quarter. As a result, Apple shares were down 4.5% in extended trading. Long-term investors should overall be positive on Apple’s business as the Services segment continued to grow fast reaching revenue of $54bn in last 12 months and will be the profit engine in the years to come.
Amazon really delivered strong earnings and revenue figures for the previous quarter and revenue guidance was significantly above estimates. But nevertheless, investors sent Amazon shares down 2% in extended trading. Investors might have been spooked by the relative growth differential between Amazon Web Services (the cloud business) and Google Cloud causing investors to wonder whether Amazon is losing ground in the cloud infrastructure industry despite 26% growth y/y.
Facebook benefitted as predicted by Pinterest and Snap earnings from exceptionally strong Q3 online advertising trends- Despite heated political discussions over Facebook and a global campaign against running advertisements on Facebook’s networks the duopoly in online advertising showed resilience. Despite these strong numbers, shares were 2% lower in extended trading as investors likely drew negative conclusions from the Q4 guidance on DAU (daily active users) and MAU (monthly active users) which was flat to negative for US and Canada. Whether the Netflix documentary The Social Dilemma has had impact is difficult to say but lower number of users are potentially less advertising on the platform going forward and thus bad for Facebook.
Alphabet was the big surprise yesterday with shares up 6% in extended trading as the company delivered 14% y/y revenue growth and expanded its operating margin. Two things stood out vs the general rise in online advertising through its Google search engine and that were YouTube ads revenue hitting $5bn up from $3.8bn last year and Google Cloud revenue hitting $3.4bn up from $2.4bn last year translating into 42% y/y growth rate which is much higher than AWS’s 26%. It leaves the impression that Google Cloud now has the best offering in the cloud infrastructure industry.
Nasdaq 100 has 3.2% FCF yield and best growth profile
Despite the initial disappointment with technology earnings the aggregate Q3 EPS number on S&P 500 is now $32.64 up 35% q/q beating estimates as we have said all along. The Q3 earnings season has been good and much better than was one could have expected, but the recent GDP figures from the US and Europe have shown the rebound is fine but we are still off a bit to where we were pre the corona pandemic. According to analyst estimates S&P 500 will not reach Q4 2019 earnings level until Q2 2020 which will probably align well with the overall economy measured by GDP.
When the dust has settled from the Q3 earnings season and the bears on technology companies have had their limelight in the media, the reality will come back to most investors. And that reality is that Nasdaq 100 companies are not that expensive with a 3.2% free cash flow yield, historically robust free cash flow generation through tough economic cycles, and one of the only segments that can deliver higher than average growth rate in revenue and cash flows. Also then the 3.2% free cash flow yield is compared against what investors are offered in global investment grade bonds it looks reasonable by historical standards.
We are quite certain that investors will come back for more and that the Nasdaq 100 has not run out of fuel just yet as David Einhorn is referring to in the media. It is not that we do not see his points, but more that the compounding effects, network effects among many Nasdaq 100 companies, and the relentless support from governments and central banks will take this equity boom higher from current levels before the reset happens. But as with everything else in life it is a guess, but hopefully based on our experience an educated guess.
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