Why You Shouldn’t Invest in FANG Stocks
Over the last five years, the FANG stocks have been big winners. Named by stock guru Jim Cramer, these companies include tech giants Facebook (NASDAQ:FB), Amazon (NASDAQ:AMZN), Netflix (NASDAQ:NFLX) and Alphabet (NASDAQ:GOOG, NASDAQ:GOOGL).
Since 2013, Facebook, Amazon, Netflix and Alphabet (Google) have returned a cumulative 347.13%, 561.29%, 752.49% and 793.22%. That contrasts with a paltry 70.73% return for the S&P 500 stock index.
So, why are we even discussing investing in the FANG stocks? It seems like a no-brainer to buy these shares. With five-year cumulative returns from over 300% to roughly 800%, it seems absurd to invest in the S&P 500, which returned only 70% during that same period.
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But, you know the drill — the past is no guarantee of future returns. And, it might not be a good idea to invest in the FANG stocks today.
That brings us to the following question: Is it a speculative investment to dive into the FANG stocks now?
What Are the Valuations of the FANG Stocks?
One way to decide whether to invest is to check the current valuation of a company. The simplest approach is to compare a company’s price-to-earnings ratio with the firm’s own historical P/E number and that of the market.
Value investors look for companies trading at or below historical P/E averages. While momentum investors look for stocks that are going up in price and are expected to continue.
Using the P/E ratio approach, you’ll get a different perspective on the “investability” of the FANG stocks than you would if you used a momentum approach.
Price TTM P/E Forward P/E Historical P/E Facebook (FB) $181.41 28.07 21.76 67.25 Amazon (AMZN) $1,917.00 151.82 76.26 426.69 Netflix (NFLX) $337.44 153.17 77.22 226.68 Alphabet (GOOGL) $1,244.77 53.76 25.93
32.65
S&P 500 $2,841.76 32.75 (Shiller – trailing 10 years avg) 17.29 (forward 1-year avg) 16.55 (Shiller – trailing 10 years avg)
Value investors might consider beaten down Facebook, after its recent troubles. The company is sporting a forward P/E ratio of 21.76, less than one-third of its average 67.25 ratio. But, before investing in FB, consider whether you expect Facebook to resume its prominence soon, or if this downward movement is the start of a nasty trend.
Google’s forward P/E ratio of 25.93 is well below the historical average P/E of 32.65 and might be worth a look. As with any investment, do some deep investigation into the company’s growth initiatives before buying shares.
With P/E ratio’s in the mid-triple-digits, it’s absurd to evaluate Amazon and Netflix using a P/E valuation approach. You’ll need to dig a bit deeper into the growth prospects to figure out if you want to take a chance on these firms. Analysts also study other valuation metrics such as revenue and cash flow ratios.
For momentum investors, Alphabet and Amazon charts show a steady upward trend. If that movement continues, investors will benefit.
If you’re the cautious type or want to invest with a small amount of money, you might want to try a small position in one or more of the FANG stocks. That way, should the upward market trend reverse, you won’t be out too much money.
Is 2018 Akin to 1999 … the Period Before the Tech Bust?
According to University of Pennsylvania, Wharton School, professor Jeremy Siegel, “Back in 1999, the tech sector of the S&P 500 (CME:Index and Options Market: .INX) had a P-E ratio of 90 … Are we in danger of overheating? There’s always that danger. But are we in a danger zone yet? I don’t think so.”
All the current FANG stocks sport P/E ratio’s below 90. Additionally, each company has a proven business model.
Siegel dispels the equivalency between today’s overvalued market and that of the late 1990’s. Many of the companies in the dot-com era had no earnings and were trading on “irrational exuberance” as former Fed chair, Alan Greenspan famously remarked.
So, although the markets in general are overvalued today, there’s greater substance among the tech companies today than 20 years ago.
So, although a crash might be coming, these FANG tech stocks have more substance behind them than the high-fliers of late last century.
Why You Shouldn’t Invest in FANG Stocks … Right Now
If you’re a fundamental investor, then you should probably avoid Amazon and Netflix. But if, after review, you found that Facebook and Alphabet showed future growth potential, now might be an entry point.
For momentum investors, you might take a chance on Alphabet and Amazon.
But, for cautious investors of all stripes, a nine-year bull market is long. In fact, the average bull market lasted 9.1 years. Thus, the chance of a market drop is greater than further advances in the next few years.
If you’re going with the probabilities, you shouldn’t invest in the FANG stocks today.
Yet, if you want to do some deep research into the future growth drivers of the individual FANG stocks and are in the markets for the long-term, then there may might be some upward room to grow … before the next bear market hits.
Ultimately, choosing stocks is a dicey process, and most investors have wins and losses.
As with any investment, before buying shares in a FANG stock, assess the company’s future growth prospects and initiatives to analyze whether today’s price is a fair one.
As of this writing, Barbara Friedberg did not hold a potion in any of the aforementioned securities.
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