Google, Meta, Amazon! Is the valuation still low? Why can you buy it recently?

After the second quarter report, the short-term volatility of the US technology sector has significantly increased due to fluctuations in the macroeconomic environment, slow commercialization of AI applications, and weak performance of some technology companies.

CITIC Securities believes that in the current volatile market environment, the income of US internet giants is gradually accelerating under the high resilience of the macroeconomy, coupled with the continuous release of operating leverage. Therefore, the performance of these companies is relatively more certain compared to other technology stocks in the US market.

From a valuation perspective, the valuations of the three major US internet companies are lower than the historical average of the past five years, indicating that they are still relatively undervalued. Taking into account the certainty of performance and the valuation cost-effectiveness, CITIC Securities believes that internet giants have both offensive and defensive attributes, making them an ideal investment direction in the near term.

Report Background: Significant excess returns of North American internet giants since the beginning of the year, market attention on future prospects and sustainability

Since the beginning of this year, the stock prices of North American internet giants have risen significantly, with Meta/Amazon/Google experiencing increases of 135%/60%/40% respectively. Although there has been a slight pullback in stock prices after the release of the second quarter report, the overall decline has been relatively limited.

CITIC Securities believes that the relatively low performance expectations, reasonable valuation cost-effectiveness, and the release of operating leverage have been the core driving forces behind the continuous upward trend of internet company stock prices.

Investment Outlook: Valuations below historical average, performance improvement as the core support for stock prices

In terms of valuation, the current valuations of the three major internet companies are below the historical average of the past five years. CITIC Securities predicts that as the macroeconomic environment improves, cost reduction and efficiency enhancement initiatives progress, and AI is integrated into various product lines, the probability of further downward movement of valuations for internet companies will continue to decrease. Additionally, each of the three major internet companies has its own stock price catalysts:

• Amazon

Focus on the recovery progress of cloud computing, growth in e-commerce market share, and improvement in profitability. In the first half of the year, Amazon's stock price performed well due to the increase in market share and improved profit margins in the e-commerce business, while AWS faced some pressure. Looking ahead, if AWS can accelerate its growth and the profit margins of the retail business continue to improve, there is still room for Amazon's overall stock price to rise.

• Meta

Short-term focus on efficiency improvement, medium-term focus on monetization of short videos. In the second quarter, Meta provided a performance guidance of nearly 20% growth for its advertising business in the third quarter. In the short term, the acceleration of advertising revenue in the North American market and the decline in company Opex are catalysts for stock price growth. In the medium term, the continued commercialization of Reels will be the core driver of the company's stock price increase.

• Google

Focus on advancements in original AI technology and the reduction of losses in Other Bets. In the first half of the year, Google released the PaLM-2 large model and will continue to develop the next generation multimodal model, Gemini, which is expected to lead the next wave of AI technological upgrades. In terms of profitability, Google, as one of the three major internet companies with relatively less emphasis on cost reduction and efficiency enhancement, is expected to achieve more aggressive profit releases through the reduction of losses in Other Bets and other businesses.

Revenue Growth: Macroeconomic Resilience Exceeds Expectations, Expected to Accelerate Further in the Second Half

At the macro level, the strong economic performance of North American e-commerce and retail provides strong support for the Internet sector. According to data from the US Department of Commerce, overall retail sales in the US increased by 3.2% YoY in July, with the nonstore retailer sector, mainly driven by e-commerce, growing by 10.3% YoY. The North American unemployment rate has not surged, and wage growth remains relatively stable.

At the business level, North American online advertising is expected to achieve double-digit YoY growth in the second half of the year, driven by e-commerce and retail. Amazon's e-commerce business is expected to benefit from the fulfillment of orders and gain market share, also achieving double-digit growth. In the medium term, new businesses such as short videos are expected to accelerate their realization by 2024, bringing new business growth to North American online advertising and e-commerce sectors.

Cost and Expenses: Cost Reduction, Efficiency Improvement, Streamlining Non-core Businesses, Integration of AI Capabilities, etc.

Starting from the second half of 2021, various internet companies have been scaling back the size of their hardware and some new businesses, gradually slowing down the overall pace of recruitment. Since the beginning of the year, the workforce of Amazon, Google, and Meta has decreased by 5%, 4%, and 16% respectively.

CITIC Securities predicts that operating leverage will continue to be released throughout the year, driving high-profit growth. On the investment front, on the one hand, internet giants, represented by Amazon, are narrowing the scale of capital expenditure in their existing businesses, achieving sustained profit improvement.

On the other hand, when laying out AI and other businesses, internet giants have stricter requirements for ROIC. CITIC Securities expects that internet giants will be more cautious in their total capital expenditure in 2024, tending to invest in innovative businesses such as AI, in order to avoid a significant decline in profits caused by Amazon's high capital expenditure in 2020-2021.

In addition to increasing revenue in the field of cloud computing through AI, internet giants can also reduce costs and improve operational efficiency through AI tools.