Watch Out for FANG Inc.

By Miriam Gottfried Features Dow Jones Newswires

A rise in shares of Facebook, Amazon.com, Netflix and Google-parent Alphabet, commonly known by the acronym FANG, has propelled the broader market rally since the beginning of the year. The reason for their outperformance isn't as straightforward as it might seem.

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The four tech giants have added $405 billion in market capitalization since the start of 2017, a gain of 31% versus a gain of 8.7% for the S&P 500. An increase of that magnitude should typically be underpinned by an improved earnings outlook. Earnings expectations at Facebook, Netflix and Alphabet have risen year to date. Their stock prices have risen more.

Indeed, if the four tech giants were one big company -- let's call it FANG Inc. -- that company's multiple would have risen to 41 times 2017 earnings estimates from 32 times 2017 earnings estimates at the end of 2016. At these levels, any earnings shortfall or unexpected slowdown in growth at any one of the companies could cause an outsized reaction in its shares.

Even separately, the stock prices and earnings estimates don't match. Earnings estimates for Facebook for this year and next are up 18% and 10%, respectively, since the beginning of this year. The company's shares are up an even greater 34%. Similarly, the 34% rise in Netflix's stock price exceeds its respective 11% and 2% gains in earnings estimates for this year and next. Expectations for Alphabet's earnings for the two years have climbed only 3% and 4% over the period as its shares have climbed 27%.

For Amazon, where investors tend to focus more on cash flow than earnings, shares have shot upward even as earnings estimates have fallen by a quarter. The gains suggest momentum, rather than fundamentals, has increasingly been fueling the rise of the companies. And it could mean investors are taking on more risk than they bargained for.

Mutual funds and exchange-traded funds focused on technology have had inflows of $6 billion year to date -- the highest of any sector -- compared with $2 billion of outflows during the entirety of 2016, according to Goldman Sachs. Actively managed funds are 32% overweight the information technology and internet and catalog retail sectors, according to Bank of America Merrill Lynch. Driving that, the bank says, is their 71% overweight position in Facebook, Amazon, Netflix and Alphabet.

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Investors enamored with highflying tech companies should know that FANG could bite back.

Write to Miriam Gottfried at Miriam.Gottfried@wsj.com

(END) Dow Jones Newswires

June 09, 2017 05:44 ET (09:44 GMT)