Microsoft Up, Alphabet Down: Same Growth, Different Outcomes
The Invesco QQQ Trust ($QQQ) is down about 1% early Thursday as positive action in Microsoft ($MSFT) offsets some of the selling in Alphabet ($GOOGL). The VanEck Semiconductor ETF ($SMH) is reversing Thursday’s gains and is down about 1.5%, and ServiceNow ($NOW) has been slammed for an 18% decline. Investors are sorting out their responses as they look ahead to Amazon ($AMZN) and Intel ($INTC) Thursday night.
The primary market theme hasn’t changed. The market is still grappling with capital spending and profitability. Microsoft and Alphabet both delivered exceptional growth last quarter. What separated them was the cost of that growth and what it means for margins.
Microsoft Gets Some Relief
Microsoft’s revenue grew 19%, and its Azure cloud business rose 48%, ahead of the company’s own forecast. But the detail that moved the stock was that Microsoft trimmed its capital spending plans slightly for next year.
That is the same thing that sent Oracle ($ORCL) up 9% Wednesday. Investors don’t need the AI giants to stop spending. They need some sign that the spending has limits and is turning into revenue. Microsoft provided both, and that eased some of the worry about what its growth is going to cost.
Alphabet Gets Hit on Profitability
Alphabet’s growth was every bit as strong. Google Cloud revenue more than doubled, and search use is growing faster than it has in five years. But the market is focused on what that growth costs.
Alphabet plans to spend about $200 billion on capital projects this year, and analysts expect that to rise to about $312 billion next year. Depreciation on all that equipment jumped 49% last quarter. At the same time, the ad business that pays for the buildout is slowing. Ad revenue grew about 10.5%, short of what analysts expected, and search growth slowed by about five points from the second quarter.
Alphabet is getting more searches and making less from each one, as AI answers leave fewer places to put ads. Spending that keeps going up while the core business slows is the profitability problem investors have been worried about.
The reaction has been severe. The stock is down about 10% early, though it is off its overnight lows. According to Bespoke, a drop of more than 9.77% would be the worst earnings reaction in Alphabet’s history as a public company. Of the 21 analysts who weighed in Thursday morning, 18 cut their price targets and none raised them. MoffettNathanson said the report “opened the door for a more bearish narrative,” and Citizens downgraded the stock.
Has the Selling Gone Too Far?
Wall Street isn’t giving up on the stock, though. Nearly all of those analysts kept Buy or Overweight ratings, and the average target of about $392 is still roughly 20% above where the stock is trading. The Wall Street Journal’s “Heard on the Street” column points out that Alphabet’s operating margin actually expanded to 32% last quarter, that it has about $265 billion in cash, more than any other big tech company, and that it trades at about 20 times forward earnings, compared with about 25 for Microsoft.
The worries about profitability are legitimate, and the search question isn’t going to be settled in a quarter or two. But a record earnings-day drop in a quarter when cloud doubled and margins expanded is the kind of gap between the news and the price move that eventually creates opportunity.
Even so, I’m not interested in buying Alphabet right now. I want to see whether the stock can hold its early lows and how the chart develops from there. Meta Platforms ($META) is a reminder of why. It is still searching for support a week after its disappointing report.
Amazon Is Next
Amazon reports tonight, and the test will be the same one. Strong cloud growth won’t be enough. Investors want to see that the spending has limits and that the growth isn’t costing too much in margins. I will hold my position into the news but may reduce it a little.
We also get the first estimate of third-quarter GDP and the September PCE inflation numbers this morning, and after the hawkish dissents at the Fed yesterday, a hot inflation number would add pressure.
Game Plan
I’m watching the reactions to these reports, but my main focus is on other stocks that are being hit by selling that has nothing to do with their particular situations. The AI story continues to evolve, and my focus is on finding the new winners that will benefit as rotational action continues. The mega-cap AI name at the top of my list is SpaceX ($SPCX).
At the time of publication, Rev Shark was long AMZN and SPCX.
