Amazon Stock Sinks. This Part of Its Business Could Help Shares Fly Again.

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Amazon

stock was sinking Friday following first-quarter earnings that disappointed investors and a second-quarter outlook that left Wall Street sour. But there is reason for optimism: strength in high-growth parts of the company’s business.

Shares in the tech giant fell 8.7% in premarket trading to $2,640.95, with Amazon (ticker: AMZN) on track to fall more than 20% this year.

Operating income at Amazon was $3.7 billion for the quarter, near the bottom of the company’s target range of $3 billion to $6 billion and far below the $5.3 billion expected among analysts surveyed by FactSet.

“Amazon’s update was worrying as it not only put the company into its first quarterly loss since 2015, but it also painted a gloomy picture for the retail market in general,” said Russ Mould, an analyst at broker AJ Bell.

Wall Street latched on to Amazon’s outlook as representing the difficulties ahead. The company is projecting operating income of between a $1 billion loss and $3 billion profit in the second quarter on sales in the range of $116 billion to $121 billion. It’s not what analysts had expected: Previous estimates were for operating income of $6.8 billion on sales of more than $125 billion.

“While Amazon’s outlook is somewhat gloomy, it is important to remember other parts of its business are firing on all cylinders, namely the advertising and cloud computing bit,” Mould said.

And he’s right.

Revenue in Amazon’s advertising business — which the company first disclosed in its last quarterly earnings, revealing it was bigger than YouTube — climbed 23% year over year to $7.9 billion. While it was short of the $8.2 billion expected by analysts, and down from $9.7 billion in the last quarter, it still represents progress.

It gets even better in the cloud, where Amazon Web Services notched revenue of $18.4 billion in the quarter, up 37% annually and some $100 million ahead of estimates. Amazon’s cloud computing business is playing an important role in the company’s overall earnings, and market participants expect that to continue.

“While Amazon’s overall revenue growth has been slowing, its cloud business is still growing at a very impressive clip, and that can’t be ignored,” said Robert Schein, the chief investment officer at wealth manager Blanke Schein. “We continue to believe that the cloud space is the most important business segment within Amazon.”

Brian Vendig, the president of wealth manager MJP Wealth Advisors, echoed optimism about the technologies that companies like Amazon have staked their future on.

“The future of mega-cap tech stocks is still strong because the underlying technologies that these companies are involved in aren’t going away,” said Vendig.

But tech companies like Amazon face a turbulent short-term outlook, even as Wall Street remains bullish on the stock, with the average target price among analysts implying upside of more than 45%. 

The Federal Reserve is expected to raise interest rates many times this year and next as it battles historically high inflation, ratcheting up the cost of borrowing. That will see bond yields rise, putting pressure on valuations by reducing the “equity risk premium,” or the amount of extra return an investor should expect to get from stocks. 

“In the short-term, the market is concerned about valuations, which makes it difficult to be buyers of mega-cap tech stocks at current prices,” said Vendig.

Write to Jack Denton at [email protected]