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Education Series: Single-Stock ETPs

Alphabet: An Earnings Miss is Possible

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Websim is the retail division of Intermonte, the primary intermediary of the Italian stock exchange for institutional investors. Leverage Shares often features in its speculative analysis based on macros/fundamentals. However, the information is published in Italian. To provide better information for our non-Italian investors, we bring to you a quick translation of the analysis they present to Italian retail investors. To ensure rapid delivery, text in the charts will not be translated. The views expressed here are of Websim. Leverage Shares in no way endorses these views. If you are unsure about the suitability of an investment, please seek financial advice. View the original at

As the article about Alphabet (or “Google”) over a year ago indicated, the company is pretty much unbeatable in its core business and its “Other Bets” endeavours are a nascent yet rather manageable drag on earnings. In the present day, however, there are larger macroeconomic conditions to consider owing to the company’s distinctive revenue lines. 

Revenue Segments and Trends

The company’s quarterly financial statements indicate a overwhelming dependence on advertising in both Search and YouTube for revenues:

Applying a “heat map” schema on the different revenue lines indicate that advertising revenue breakdown hasn’t really seen a momentous shake-up (or even a slight one, for that matter) for several years. While YouTube and Network ads compete with another, search-based advertising outstrips all others in contribution by a vast margin. 

Another interesting feature has been the slight rise in revenue contribution by the company’s Cloud business. Now, the cloud computing business is generally considered to have a high switching cost in service providers. This means that expecting this segment to start producing a significant bulk of the revenue any time soon wouldn’t be a very realistic proposition. 

A “heat map” schema on quarter-on-quarter (QoQ) revenue growth, however, uncovers some interesting trends that are contextualized by the revenue share heat map:

  1. The “YouTube Ads” segment shows some very interesting variability. A spike or drop in this segment, however, would be a false positive or a false negative, given how massive of a share the “Search” business has. 
  2. In the highlighted time period, there is some suggestion of a seasonality effect in “Search” revenues. This is a very weak signal, though. While the highlighted time period shows a consistency in Q1, there is no such consistency in Q2 or Q3. Furthermore, going back in time further weakens the seasonality argument. 
  3. The high variability in “Cloud” and “Other Bets” segments also inevitably become a false signal, given how massive a share the three advertising segments’ revenues have on the total bottom line.
  4. The size of the “Search” business cannot be overstated. Overall, the bottom line is highly correlated with the “Search” business’ revenues.

Macroeconomic Factors and Price Ratio Trends

Given the importance of advertising, the company’s fortunes bear a striking resemblance to that of Meta Platforms (which had been covered last week).  Thus, the overall picture for advertising is generally similar: revenues are generated from advertisers and not the users. While digital ad spending is here to stay and will remain the dominant form of advertising, how much or how often advertisers will spend is absolutely dependent on macroeconomic conditions.

The overall macroeconomic outlook has been covered in a number of articles over the past few months. Overall, it’s not a pretty picture: individual debt remains high and wage earnings growth isn’t really keeping up with inflation. 

Overall, Consumer Price Index levels show a returning trend in increasing month-on-month deltas in inflation since July:

With an ongoing squeeze in incomes and spends, the question is: will advertisers continue to spend as much and as frequently as they used to? If the answer is yes, the company’s revenue streams are likely to rise in the near- to mid-term. If not, the tension the streams face bear a strong relationship with the broader economic outlook. 

An examination of the trends in the Price to Earnings (PE) Ratio relative to the broad-market S&P 500 with year-wise correlation as a “goodness of fit” measure would be in order, similar to that done in recent articles about Apple and Meta.

As it turns out, there’s a roughly similar tale in trends coming to light: while the company was valued somewhat higher than the index in 2019 and 2020, the stock did face a reversal of sorts in 2021. In the Year to Date (YTD), the  higher relative valuation is missing and correlation has been increasing in nearer periods. 

Given its close relationship with advertising (and by extension, consumer spending), analysts generally deem the company to be an important bellwether for the economy. In consensus estimates in the YTD so far, the company missed them by a small margin.

An unwritten rule of thumb among institutional analysts is that earnings growth are generally estimated somewhat conservatively. As a result, positive earnings surprises tend to be more common than not. As a result of the surprise, there is a momentary bump in the stock’s price.  However, earnings expectations being missed by a company that is rather exceptionally well-led and essentially has global dominance in its core business suggests that the tensions wrought by macroeconomic conditions had been underestimated. 

Furthermore, individual investors have been exiting the market in droves throughout the year, with the last week of September alone accounting for nearly as much in exits as the rest of that month. 

This has also contributed to the loss of market liquidity that a previous article covering the October edition of Bank of America’s Fund Manager Survey had indicated. Alphabet’s growing correlation with the broader index is another cause for concern. As the survey indicated, nearly 91% of the survey’s respondents don’t expect global earnings per shares (EPS) to rise substantially over the next 12 months. 

In confirmation of this assertion is the fact that the forward earnings of the S&P 500 is also under significant bearish pressure and has already erased valuation gains nearly all the way back to start of 2019. 

In Conclusion

There’s every possibility that most analysts might have adjusted their models as a result of which Alphabet’s upcoming earnings will be a positive surprise. Given lowered liquidity, there’s no telling if the stock price bump will be pronounced or even sustained.  However, given that the company’s stock is included as a constituent of many broad ETFs and ETF volumes have been rising, it is very likely that the stock price will witness some rises as further units of ETFs are created and traded. 

On its own, however, the merits of picking the stock isn’t very clear at the moment, through no fault of the leadership’s business decisions or any rival. Quite simply, it’s the economy.

Exchange-Traded Products (ETPs) offer substantial potential to gain magnified exposure with potential losses limited to only the invested amount and no further. Learn more about Exchange Traded Products providing exposure on either the upside or the downside to the S&P 500, and the upside or the downside to Alphabet’s stock.

Your capital is at risk if you invest. You could lose all your investment. Please see the full risk warning here.

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Sandeep Rao

Research

Sandeep joined Leverage Shares in September 2020. He leads research on existing and new product lines, asset classes, and strategies, with special emphasis on analysis of recent events and developments.

Sandeep has longstanding experience with financial markets. Starting with a Chicago-based hedge fund as a financial engineer, his career has spanned a variety of domains and organizations over a course of 8 years – from Barclays Capital’s Prime Services Division to (most recently) Nasdaq’s Index Research Team.

Sandeep holds an M.S. in Finance as well as an MBA from Illinois Institute of Technology Chicago.

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Violeta joined Leverage Shares in September 2022. She is responsible for conducting technical analysis, macro and equity research, providing valuable insights to help shape investment strategies for clients.

Prior to joining LS, Violeta worked at several high-profile investment firms in Australia, such as Tollhurst and Morgans Financial where she spent the past 12 years of her career.

Violeta is a certified market technician from the Australian Technical Analysts Association and holds a Post Graduate Diploma of Applied Finance and Investment from Kaplan Professional (FINSIA), Australia, where she was a lecturer for a number of years.

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He joined LS from UniCredit, where he was a corporate relationship manager for multinationals. His previous experience is in corporate finance and fund administration at firms like IBM Bulgaria and DeGiro / FundShare.

Oktay holds a BA in Finance & Accounting and a post-graduate certificate in Entrepreneurship from Babson College. He is also a CFA charterholder.

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