Nasdaq Market Correction: 1 "Magnificent Seven" Stock to Buy Now, and Another to Avoid
Recession fears resurfaced last week when a disappointing jobs report raised questions about whether the Federal Reserve has waited too long to cut interest rates. That knocked the Nasdaq Composite (NASDAQINDEX: ^IXIC) into correction territory, meaning the technology-heavy index has fallen at least 10% from its record high.
The "Magnificent Seven" stocks have suffered double-digit declines, though some have been hit harder than others. Amazon (NASDAQ: AMZN) plunged 20% from its high, while Apple (NASDAQ: AAPL) has slipped just 11%. Investors may be tempted to buy the dip in both cases, but not every pullback is a buying opportunity.
Amazon shares currently trade at a reasonable valuation, but Apple shares still look expensive. Here are the important details.
Amazon: The Magnificent Seven stock worth buying right now
Amazon has a strong presence in three large markets. It runs the most popular e-commerce marketplace, as measured by monthly visitors. It is the third-largest advertising company in the U.S., and eMarketer says Amazon could take second place from Meta Platforms by the end of the decade. Finally, Amazon Web Services is the market leader in cloud infrastructure and platform services, meaning it's ideally positioned to monetize artificial intelligence (AI).
Amazon reported mixed financial results in the second quarter. Revenue increased 10% to $148 billion, missing the $148.6 billion forecasted by Wall Street. But generally accepted accounting principles (GAAP) net income surged 94% to $1.26 per share, topping the $1.03 per share analysts anticipated.
Unfortunately, management also issued somewhat disappointing guidance. The company expects operating income to increase 18% in the third quarter, while analysts expected 37% growth. That shortfall contributed to the recent drawdown in the stock, but it creates an opportunity for patient investors.
Amazon still has strong growth prospects in e-commerce, digital advertising, and cloud computing. Retail e-commerce sales and digital ad spending are expected to grow at annual rates of 8% and 10%, respectively, through 2027, according to eMarketer. Meanwhile, public cloud services revenue is forecasted to compound at 19% annually through 2028, according to IDC. That gives Amazon a good shot at double-digit sales growth in the coming years, which should translate into slightly faster earnings growth as the company continues to optimize operating costs.
Indeed, Wall Street expects earnings per share to increase at 23% annually through 2027. That makes the current valuation of 38.5 times earnings look reasonable. I say that because those figures give a PEG ratio of 1.7, a material discount to the three-year average of 2.9. Patient investors should feel confident buying a small position in Amazon today.
Apple: The Magnificent Seven stock best avoided right now
Apple breaks its business into two revenue streams: products and services. The former includes revenue from consumer electronic devices like the iPhone, iPads, and Mac computers, while the latter includes revenue from the App Store, Apple Pay, iCloud, and subscriptions offerings like Apple TV+ and Apple Music. The company has a strong presence in several of those markets.
Apple consistently ranks second and fourth in quarterly smartphone and personal computer (PC) shipments, respectively. It operates the leading mobile app store, as measured by sales, and it has parlayed that leadership into a booming advertising business.
Additionally, Apple Pay is the leading in-store mobile wallet among U.S. consumers, and Apple TV+ recently overtook Paramount Global's Paramount+ as the sixth-most-popular streaming service in the U.S.
Yet, Apple is also beset by headwinds. The recently enacted Digital Markets Act could damage the dominance of its App Store in Europe by forcing the company to support third-party app stores. Additionally, Apple is losing smartphone market share to local competitors in China. Regional iPhone shipments fell 3% in the second quarter despite an acceleration in the broader market. That is concerning because China accounted for 19% of Apple's revenue last year.
Finally, Apple lacks a clear-cut strategy where AI is concerned. It plans to introduce Apple Intelligence in October, bringing AI features to iPhones and MacBooks. But those features are free and, apart from potentially driving product upgrades, management has yet to detail plans for future monetization. Bloomberg has speculated that Apple will eventually charge for certain AI features, but whether consumers will pay is another question.
Apple reported modest financial results in the June quarter. Revenue rose 4.8% to $85.8 billion, and GAAP net income increased 7.6% to $21.4 billion. Active devices hit a record high across all products and geographic segments, services revenue climbed 14% to a record $24.2 billion, and gross margin expanded 180 basis points. In short, Apple is successfully drawing consumers to its hardware ecosystem and monetizing them with high-margin services.
The problem is valuation. Apple stock currently trades at 31.8 times earnings, a premium to the three-year average of 27.8 times earnings. That price tag looks especially expensive, given that Wall Street expects Apple to grow earnings per share at 9% annually over the next three years.
That rich valuation may explain why Warren Buffett has slashed Berkshire Hathaway's stake in Apple in recent quarters. Investors should avoid this stock right now.
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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool's board of directors. John Mackey, former CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Trevor Jennewine has positions in Amazon. The Motley Fool has positions in and recommends Amazon, Apple, Berkshire Hathaway, and Meta Platforms. The Motley Fool has a disclosure policy.
Nasdaq Market Correction: 1 "Magnificent Seven" Stock to Buy Now, and Another to Avoid was originally published by The Motley Fool