Stocks have declined meaningfully in October, with the S&P 500 down nearly 5% month to date as of this writing. But the sell-off is steeper for many growth stocks. Indeed, that's why the tech-heavy Nasdaq Composite is down closer to 8% during this same time frame.
As history has proven, many investors are more fearful during market pullbacks, selling when they should be buying. But for more opportunistic investors willing to hold stocks through thick and thin, this sell-off is causing some good buying opportunities to surface. High growth companies like Square, Salesforce, and Amazon.com, for instance, have dropped 24%, 14%, and 13%, respectively, during this period.
But one timely opportunity surfacing amid October's sell-off looks especially attractive: streaming-TV giant Netflix (NASDAQ: NFLX).
Image source: Getty Images.
Is Netflix's decline justified?
Netflix stock has taken a rather big beating over the past few months. Shares are down 19% since July 16, driven both by the stock's post-earnings sell-off and its 15% month-to-date drop.
Fears, however, may be overblown.
For instance, the primary concern in the second-quarter update was the company's worse-than-expected growth in members. But Netflix strives for accuracy with its forecasts for member growth, making occasional misses inevitable. Indeed, the company has overforecast its net member additions in three out of the past 10 quarters -- and management expects its actual members will continue to come in below its forecasts from time to time. Netflix's second-quarter member growth in the U.S., which came in at about half of what management had forecast for the period, was also considered to be central to the market's negative response to the report. But when investors zoom out and view net member additions in the U.S. over the first six months of the year, member additions were impressively slightly ahead of additions in the first half of 2017.
Then there's the overall pullback in growth stocks that is weighing on Netflix shares. While it could be argued that Netflix's valuation before this pullback was a bit pricey, the stock's sell-off may have gone too far.
Don't underestimate Netflix's momentum
With so much focus among investors and the media on Netflix's quarterly net member additions -- a metric that only looks at sequential growth and not year-over-year growth -- it's easy to forget just how rapidly Netflix is growing. Netflix's revenue, for instance, was up 40% year over year in the company's second quarter. Over this same time frame, earnings per share jumped from $0.15 in the year-ago quarter to $0.85. In addition, its total number of streaming members soared 25% year over year.
Netflix's growth story is far from over. Sure, Netflix has a wild price-to-earnings multiple of 149. But with growth like this, Netflix deserves to trade with lofty valuation multiples.
Analysts are certainly on board with Netflix's growth story. They expect Netflix's earnings per share to soar. On average, analysts forecast the company's earnings per share to increase 60% per year over the next five years.
Don't think for a second that Netflix's years of growth are behind it. Capturing the company's massive momentum, Netflix recently posted its fastest year-over-year growth rate for its streaming business in its history. The company's revenue from its streaming subscriptions soared 43% year over year in Q1.
Furthermore, there are some exciting growth areas for Netflix on the horizon.
Consider Netflix's international business. Netflix's international members have been soaring, rising 40% year over year in the company's most recent quarter. International revenue has been growing even faster, jumping 65% during this same time frame.
Then there's Netflix's trend of rising prices. Netflix has been able to slowly increase the price of its subscription while simultaneously growing its user base. In its most recent quarter, for instance, the average selling price of its monthly subscriptions increased 14% year over year. This helps Netflix's revenue and earnings grow faster than its member count.
Looking ahead, both of these drivers should continue to deliver for the company. There's no reason Netflix can't continue to grow its international business and raise the prices of its subscriptions as it adds more content to its platform.
Of course, there's always a high degree of risk when investing in a growth stock like Netflix. Just as shares pulled back so sharply in October, they could continue to fall if growth stocks keep getting hammered. And if Netflix's revenue and earnings growth rates decelerate more rapidly than expected, investors may have to reassess their expectations for the company.
But for investors willing to hold over the long haul, October's pullback could represent an attractive entry point into one of America's greatest companies.
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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Daniel Sparks owns shares of Square. The Motley Fool owns shares of and recommends Amazon, Netflix, Salesforce.com, and Square. The Motley Fool has the following options: short January 2019 $80 calls on Square. The Motley Fool has a disclosure policy.