FANG stocks are in 'fairyland' and any bounce back could be 'fragile,' analyst warns

Key Points
  • FANG stocks are "egregiously" overvalued, Paul Gambles, managing director of MBMG Group said.
  • It comes after Facebook said that 87 million user profiles were affected in the Cambridge Analytica data breach.
  • Gambles said the fact that Facebook knew about the data incident in 2015 shows FANGs are operating in "fairyland."
  • J.P. Morgan Private Bank equities strategist Grace Peters, said the bank was "switching preferences away from just purely internet and FANG" stocks to cyclical names.
Tech a 'fragile, almost fake, sector that's actually leading the economy': MBMG Group

The Facebook data scandal showed that the group of technology stocks known as the FANGs were operating in a "kind of fairyland," one analyst told CNBC Thursday, with J.P. Morgan adding that it is "switching preferences" away from just internet stocks.

FANGs refer to shares of Facebook, Amazon, Netflix and Alphabet-owned Google. Tech stocks have been hit hard in recent days.

Paul Gambles, managing director at Thailand-based advisory firm MBMG Group, called these stocks "egregiously" overvalued. He pointed towards the recent Facebook data scandal in which 87 million user profiles were scraped and the data handed over to political consultancy Cambridge Analytica.

The issue was known to Facebook in 2015.

"I think the really interesting thing is it shows sort of the kind of fairyland that FANGs have been operating in. (Facebook CEO Mark) Zuckerberg has known for a long time about this particular vulnerability," Gambles told CNBC's "Squawk Box Europe" Thursday.

"All of a sudden, the spotlight is shining on the Facebook model without the answers yet being in place as to what's going to come along and replace that," he added. "To me that just shows what a nonsense these tech valuations were that Facebook themselves behind the scenes knew they had a huge problem with their model, and yet the Facebook price just kept going up like crazy."

Some technology stocks have been under pressure this year after a strong 2017. Facebook shares are down around 12 percent year-to-date, while Alphabet is over 2 percent lower in the same time frame. Amazon, however, is up over 20 percent this year, while Netflix is 50 percent higher.

'Switching preferences' away from FANGs

Analysts have reacted to the rising headwinds against the FANGs. Morgan Stanley cut its price target for Facebook shares to $200 from $230 on Wednesday. While Zuckerberg recently said that he has not seen a "meaningful number of people" leaving Facebook, the market is worried about increasing regulation that could hit tech companies.

For example in Europe, new legislation called the General Data Protection Regulation or GDPR will come into force on May 25. It has strict rules on how companies handle data. And political scrutiny is stepping up on the tech sector. Zuckerberg will testify in front of Congress on April 11 in relation to the Cambridge Analytica data scandal, and has been summoned by U.K. lawmakers too.

Trump takes on Jeff Bezos

Meanwhile, President Donald Trump has gone after Amazon claiming the U.S. Post Office "lose a fortune" delivering packages for the e-commerce giant.

Many analysts expect greater regulation of technology companies and are switching their focus away from the FANGs.

"Greater regulation is something that we factor into the technology sector already when we're looking at it. We do think it's inevitable that you're going to see more regulation, more public scrutiny as well. And we think that's likely to have some impact on the cost structures of these businesses' margins and therefore impact earnings to a certain extent," Grace Peters, European equities strategist at J.P. Morgan Private Bank, told "Squawk Box Europe" Thursday.

"So technology is one of our key sectors that we are very positive on, but we have been — from the middle of last year — slightly switching preferences away from just purely internet and FANG and towards other parts of technology, those that are more cyclical perhaps like semiconductor or that benefit from other very solid structural trends like the cloud, artificial intelligence."

'Fragile' leadership 

Wall Street appears to be bullish on technology stocks over the longer term. Daniel Ives, head of technology research at GBH Insights, said in a recent note that regulators' tough stance may not actually materialize into big action.

"The bark will be worse than the bite with the fundamental impact to these names 'manageable', and thus would be buyers of FANG names during this period of volatility and regulatory uncertainty," Ives said.

Tech selloff is signaling global turmoil: Technician

Gambles added that technology stocks can still "bounce" and resume their market leadership, though that could be a sign of trouble for the broader market.

"I think you can certainly see a tech bounce, and if you do, to us that's really worrying because it just means again that you've got this fragile, almost fake sector that's actually leading the economy," Gambles told CNBC.