Amazon stock: Buy, sell, or hold going into 2021?

The e-commerce specialist’s stock has gone nowhere since July. Is it time to buy?

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This article was originally published on All figures quoted in US dollars unless otherwise stated.

Following an enormous run-up in Inc's (NASDAQ: AMZN) stock price during the first seven months of the year, shares have failed to gain any meaningful momentum since then. The stock is currently at the same level it was on 1 August 2020. Does the stock's underwhelming performance in recent months give investors a buying opportunity as we head into a year that may benefit from a reaccelerating U.S. economy as vaccines potentially begin suppressing COVID-19?

To answer this question, let's take a look at Amazon's business momentum and the growth stock's valuation.

Soaring sales and improved profits

2020 has undoubtedly been a spectacular year for Amazon. After wrapping up 2019 with 20% year-over-year sales growth, no one would have guessed the acceleration that would be in store for the company in 2020. First, second, and third-quarter revenue jumped 26%, 40%, and 37% year over year. Coronavirus-related lockdowns meant consumers all over the world flocked to the e-commerce company's website to order goods without having to leave their homes.

Importantly, however, the boost these lockdowns provided Amazon benefitted more than the e-commerce giant's top line. Trailing-12-month free cash flow for the period ending 30 September was $29.5 billion, up from $23.5 billion in the same period one year earlier. This occurred even as operating expenses surged as Amazon hired aggressively and incurred increased costs related to operating during a pandemic. Operating expenses for the nine-month period ending 30 September were $244 billion, up from $182 billion in the same period one year earlier.

Capturing how Amazon was able to demonstrate a scalable business even as expenses jumped, the company's trailing-12-month operating margin was 5.7% at the end of Q3. That compares to 5.4% at the end of the year-ago period.

Handling the coronavirus pandemic in stride, it's not surprising that the stock is up a total of 70% this year.

What about Amazon stock's valuation?

But has Amazon stock's big move higher during the first seven months of the year already priced in the company's strong potential over the long haul? Even more, are investors fully considering the risks of a possible significant deceleration in the company's top-line growth as the economy reopens and consumers resume some of their brick-and-mortar shopping habits?

Amazon stock certainly doesn't appear cheap at first glance. The company has a $1.6 trillion market capitalisation and trades at 92 times earnings. But here's what investors should keep in mind: analysts are convinced that there's still significant room for earnings-per-share (EPS) growth as strong revenue growth continues and the company's operating margin expands further. For instance, consider that analysts are currently modeling for Amazon to achieve earnings per share of approximately $63 in 2021 -- up from an estimated $39 in 2020 and about $23 in 2019. With revenue growing rapidly and Amazon's operating margin expanding, earnings could soar in the coming years.

Amazon stock: buy, sell, or hold?

So, is Amazon stock too expensive to buy? Not necessarily. Earnings per share growth like this suggests shares may be worth their current price tag.

Investors should still exercise caution when it comes to Amazon stock. 2020 was an unprecedented year in many ways. It's possible that in 2021 the e-commerce specialist has a tough time living up to strong year-ago revenue comparisons (thanks to lockdowns that boosted sales in 2020). Currently, analysts are modeling for 18% sales growth in 2021. If analysts are overly optimistic, however, the market could punish the stock. 

Despite this near-term risk, the company's strong business momentum and the impressive scalability its business model demonstrated in 2020 ultimately make the stock a buy at this level, in my opinion. For investors interested in buying the stock, it would be wise to keep the position small relative to the total value of their overall portfolio in order to help diversify away from some of the risks of any unforeseen challenges.

This article was originally published on All figures quoted in US dollars unless otherwise stated.

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Daniel Sparks has no position in any of the stocks mentioned. John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of and recommends Amazon and recommends the following options: short January 2022 $1940 calls on Amazon and long January 2022 $1920 calls on Amazon. The Motley Fool Australia has recommended Amazon. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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