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Q1 2021 Earnings season commentary
Big tech proves once again that it's more dominant than ever
The following write-up reflects only the authors opinions and should not be taken as investment advice. The piece is solely meant to be read for it’s entertainment value. The author may own, buy and sell equities mentioned in this post.
The tech earnings season for Q1 2021 has been kicked off in a major way. All the big tech giants have reported earnings and there is a lot to unpack.
All the important semiconductor equipment makers have also reported their earnings. And by the looks of it companies have been beatring their earnings estimates by large margins.
The logical conclusion one could then draw was that stocks must have soared after delivery such stellar reports. But the reality did not quite turn out to be so.
The average stock that I follow that has reported earnings have traded down, sometimes significantly so, despite reporting record numbers. Both new and seasoned investors are left wondering why seemlingly great earnings reports have been met with such negativity.
The primary reason for selloffs in my eyes, following great earnings reports is often that valuation was too high going into the print. Meaning that too much had already been priced into the stock. If you are paying 50x trailing twelve month sales, the company is already priced as if it’s going to dominate in it’s market.
There can be many reasons for a stock to sell off following an earnings report, a few of them have nothing to do with the underlying fundamentals of the business, but more so the underpinnings of what actually drives stock prices. Supply and demand.
If a big stockholder decides to sell out of a stock, one of the very best times to sell off large blocks of stock without affecting the price of the underlying asset is during the days that companies report their earnings. This is simply because there is much more volume on those days, as traders trade the earnings reports.
It’s no secret that I have been reducing my gross exposure to expensive and unprofitable growth stocks after this recent rally in them. As the rally in the longer dated US treasury yields slowed down, and even gave some back, most growth stocks saw a significant bounce. Given my expectation for a strong economic rebound, I fully expect the longer dated US treasury yields to resume their upwards climb. This could put pressure onto growth stocks again, as future cash flows get more discounted. Cash in the future is worth less, and cash in the present is worth more.
I’ve thus chosen to look for assets that generate more cash in the present. And since I still like to stay long the megatrends in tech such as cloud computing, edge computing, artificial intelligence, cybersecurity, digital advertising, 5g and VR. The answer was right infront of me. Buy the big tech names.
Big tech is massive FCF machines and each have either monopolies in certain aspects of their business, or best in class products. And as I said earlier in a tweet on the 27th of April:
Seeing these incredibly strong big tech earnings it gets sort of tough to justify buying slow growing software stocks. You get both revenue growth and safety at a pretty fair valuation. Alphabet grew revenue by +34.4% Y/Y Microsoft grew revenue by +19.1% Y/Y
(Some) reasons to be bullish big tech:
Microsoft has its 365 Dynamics suite, growing far faster than all of their competitors.
Teams, which has won the war against Slack and has moved onto trying to win business from Zoom.
LinkedIn, which is bigger than both Snapchat and Pinterest in terms of revenue generation.
Microsoft Office, which despite the best effors of Google, is still far and away the king of office productivity.
Windows 10, which has an extremely undeappreciated near monopoly on PC gaming.
Github, which is far and away the largest file sharing site in the world.
Amazon.com due to how many US citizens have prime memberships, they will likely always dominate.
Twitch tv. A near monopoly in game streaming and esports. Youtube is also a player here.
AWS - Far and away the largest cloud computing vendor, only set to grow together with the industry as this is the platform most cloud companies build their services on top of.
iPhone the iPhone is far and away the king of smartphones. The most important device in most peoples lives. Their margins are incredible, and so is their pricing power. Despite steady pricing increases over the years, consumers continue to pay up for the newest iPhones due to how good the product is relative to the competition.
App store - The app store is a monster demanding a 30% cut of every transaction taking place on the platform. On top of that they may own some of, if not the most expensive ad slots on the planet. How much is getting your app on the front page of the app store worth, in front of hundreds of millions of affluent consumers? Turns out, it’s worth a lot.
Google / Alphabet
Youtube, together with Tiktok is defining a whole generation of kids. They complement each other perfectly. Youtube does long form video, and tiktok does short form video. On top of that, youtube is a large player in livestreaming.
Android, android is the freemium mobile phone OS. They make most of their money selling ads. The play store is a similar monster to iOS. Optionality here is huge. On top of the google owns the largest mobile ad network.
Instagram is still huge despite getting pummeled by Tiktok on its home turf over the past year.
Messenger, and WhatsApp are some of the primary means of communications in large parts of the world.
Oculus is by far the most succesfull consumer VR platform.
Reasons to be bearish:
Some reasons to stick with smid cap growth stocks and continue to shun big tech
Faster growth. Smaller companies have the tools to be able to grow faster than bigger companies. Doesn’t mean they always do so, but some absolutely do.
The very strong growth numbers that Azure +50% and AWS +32% posted is a very good sign for upcoming cloud stock earnings in particular. Earnings reports should be blowouts across the board. So there will be enough to cheer on, and you will get some conviction food. (Whether that will move the stocks higher is another question.)