It's too early to share Wall Street's renewed optimism for mega-cap tech stocks

Published Fri, Jan 6 20233:32 PM EST

Some Wall Street analysts are starting to like Big Tech again, following the sector's beatdown in 2022. But we're not ready to fully embrace the optimism just yet. What Wall Street is saying Piper Sandler called out Club stocks Alphabet (GOOGL) and Amazon (AMZN) as top buys. In a Thursday note, Piper wrote: "The importance of Google Search is increasing" as it remains a key beneficiary of Apple's previous privacy changes, which hurt many other platforms tied to online advertising. Apple (AAPL), also a Club holding, started requiring device users to opt in for app activity tracking. Most are opting out. As a result, Snapchat (SNAP) and Club name Meta Platforms (META) can now only track your activity outside of their own apps if you allow it. Alphabet, on the other hand, is less impacted because users go directly to the Google Search bar and type in exactly what they want. So there's not nearly as much of a need to track across apps because we all tell Alphabet exactly what we want. They have direct insight, whereas others tend to rely on more indirect tracking. Piper analysts note that year-over-year comps for Amazon will be easier in 2023 than they were last year. That's because in 2022, we were comparing to 2021, a period in which we were still feeling the effects of Covid mitigation measures in the U.S. — and therefore, also seeing artificially increased demand in online buying. Additionally, Piper likes the stock's setup, saying that "history suggests periods of sharp [trailing 12-month] price declines have been prodigious opportunities for [forward 12-month] returns." As for the advertising opportunity, the analysts acknowledged Apple's tracking difficulties but said "this is less true for retailers." They added that Amazon "is on track to be the fastest growing digital advertising platform for FY22 at ~20% y/y." In their view, "the ability to serve ads closer to the transaction provides an advantage over social." Mizuho called Meta — the company behind Facebook, Instagram and WhatsApp as well as virtual reality headsets and metaverse aspirations — a top pick. The reasoning is not exactly something to get too excited about. The analysts like Meta basically because of how poorly it did in 2022. It was one of the worst S & P 500 performers last year, down more than 64%. Despite expectations for continued high inflation and rising interest rates leading to a U.S. economic slowdown, Mizuho sees "limited downside risk" to fiscal 2023 earnings estimates for Meta. The thinking seems to be that sentiment is as negative as can be and the company has a very low bar when it comes to earnings expectations. On a more positive note, the analysts did say that advertising volumes appear to be accelerating, which should benefit pricing. Additionally, they noted that Meta has a history of overstating expense guidance — and as a result, could surprise to the upside on profitability by spending less than was stated in its guidance. Lastly, Mizuho said other drivers include the potential for government regulation of TikTok, which would benefit Meta's copycat offering Reels, and the lapping of Apple's privacy updates. Wells Fargo highlighted Microsoft (MSFT) as one of their "favored names for the new year." It said large-cap platforms with strong management teams and a "proven ability to consolidate customer spending given advantages of reach and scale" are where investors want to focus. The analysts expect these names, which include Microsoft, to "pick the low-hanging fruit" by working to "add value for existing customers by offering discounts, bundles, and other merchandising mechanisms to ultimately centralize spend." Microsoft fits that profile perfectly, seeing as its ecosystem includes everything from hardware to productivity software, like Office, used on those devices to the cloud infrastructure where that data is housed and analyzed. What the Club thinks Clearly, there are things to like about each of these companies. While the analysts make good points, we continue to believe that near-term caution is warranted, especially for some of these names with price-to-earnings multiples higher than the overall stock market. For starters, nothing we see in these notes is all that revelatory. So if you weren't a buyer before reading the research, there isn't much here to change your mind. We knew search is where the ad dollars will go but ad dollars are limited these days. We knew Microsoft has scale. We knew Amazon has a rapidly growing ad business and that it had a difficult 2022, and Meta being so bad it's good isn't going to excite those concerned about management's investment agenda. We don't think these updates are enough to attract new buyers. To be sure, these are all still great companies with the potential for significant long-term growth. Each one is arguably the best of the best in its respective category — which is why we continue to own them. However, we have to remember that a company and a stock are two very different things. At the moment, these aren't the stocks that big money wants — at least not until we see more action taken in terms of cost-cutting. Amazon cutting 18,000 jobs simply isn't enough. We never want to cheer when people lose their jobs, it's a horrible thing. However, as investors, we also have to acknowledge that Amazon employs roughly 1.5 million people after adding hundreds of thousands of jobs during Covid to meet exploding e-commerce demand; staffing should now reflect that demand is getting back to more normal levels. While headcount went up by about 74% from 2020 to 2022, sales only increased by about 36%. Therein lies the problem for Wall Street: If you were to make the argument that headcount should grow along with revenue — and many people think it should grow slower due to increasing automation and a desire to see improving operating leverage — then Amazon's headcount should currently closer to 1.19 million. Amazon had about 876,000 employees before Covid. Of course, that's not exactly how the math will work out in the real world given that certain areas of the business do need a greater workforce to scale revenue. Logistics, for example, requires more warehouse and delivery staff to grow revenue versus what the Amazon Web Services (AWS) cloud division may need. However, it does illustrate why Wall Street isn't all that excited about the initial cuts. This same thinking — revenue growth versus expense growth — can be applied to each of these names. How expenses are cut will differ, but all of them need to reduce their workforces to some extent and most also need to cut investments being made into far-out potential growth opportunities. We're talking about the metaverse buildout at Meta, Alphabet's moonshots, and Amazon's Alexa investments — none of which have really paid off in the way management thought they would. Bottom line While we are always happy to see the Street support our names and continue to believe in all of these companies over the longer term, the upside over the next six months will be limited. Rallies will get sold into until further action is taken to address costs and thereby improve profitability. The Federal Reserve is also still in rate-hiking mode, a factor that places pressure on anything with an above-market multiple, like Amazon and Microsoft, and those names sensitive to the economy as recession concerns mount. Given their size, all of these names have become economically sensitive. Amazon and Microsoft are seeing consumer spending slow along with business spend in the cloud, while Meta and Alphabet are taking the hits on advertising. (See here for a full list of the stocks in Jim Cramer's Charitable Trust.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust's portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

An avatar of Mark Zuckerberg, chief executive officer of Meta Platforms Inc., speaks during the virtual Meta Connect event in New York, US, on Tuesday, Oct. 11, 2022.

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Some Wall Street analysts are starting to like Big Tech again, following the sector's beatdown in 2022. But we're not ready to fully embrace the optimism just yet.