Amazon Could Benefit from Rate Cuts

The Fed is expected to continue its rate cut cycle until 2026, which will bring multiple benefits to consumers and businesses. $Amazon.com(AMZN)$ could be a significant beneficiary of this trend, potentially continuing its long-term upward trajectory.

A Look Back at Q2 Earnings

When Amazon reported its second-quarter earnings in early August, the results were a mixed bag. While revenue grew slightly over 10% year-over-year, it missed the mark by nearly $800 million. The guidance for the current quarter was also somewhat tepid.

However, the company's net income nearly doubled to about $13.5 billion, driven partly by a surge in cash flow. As of June 30, Amazon's net cash position exceeded $26 billion.

With over $89 billion in cash and securities, and short-term debt just above $7 billion, long-term debt close to $55 billion, this contrasts sharply with a net debt position of $3.5 billion a year earlier.

This change generated nearly $800 million in interest income for Q2 2023. Given that Amazon invests hundreds of billions annually, we may see acquisitions to boost sales or focus on share buybacks.

The Fed is Here

Inflation has moderated but hasn't reached the Fed's 2% target yet. If we see moderate monthly growth, it’s likely we could hit that target by early 2025. The Fed may begin lowering rates to further stimulate economic growth, which has been hampered by its previous tightening.

Bond yields have fallen significantly from their peaks, a positive sign for businesses looking to refinance or secure capital at lower rates than seen in the past couple of years. Meanwhile, 30-year mortgage rates have dropped nearly two percentage points from their highs at the end of 2023.

Those with mortgages at 7% or higher are likely seeking to refinance, and this activity has certainly increased recently. Additionally, falling energy prices will benefit consumers during the holiday shopping season, potentially leading to lower heating costs this winter.

If Amazon can maintain decent retail sales over a few quarters, coupled with strong growth from AWS and advertising, the company is poised for significant profits.

Risks to Consider

However, there are two key risks to keep in mind.

First, if the Fed delays rate cuts too long, the U.S. economy could weaken, leading to a recession. In this scenario, consumer spending would likely slow, impacting Amazon's expected revenue growth.

Another risk is that, with rate cuts, inflation might resurge by early 2025, leading to slower spending or the Fed needing to keep rates high for longer—or even raise them again.

Current Valuation Analysis

For years, Amazon’s P/E ratio was exorbitantly high. Now that the company is generating reasonable profits, its valuation looks much more attractive.

A recent comparison of Amazon with other tech giants like $Apple(AAPL)$ $Alphabet(GOOG)$ $Alphabet(GOOGL)$ $Meta Platforms, Inc.(META)$ $Microsoft(MSFT)$ shows Amazon's P/E ratio slightly above the current Wall Street average of 39.5. While this is significantly higher than its peers, the growth potential justifies it.

If Amazon hits a midpoint valuation of around 32 times earnings—expecting $7.50 per share in 2026, compared to the current consensus of $7.39—that would set a target price of $240 per share, suggesting over $50 in upside from here.

Conclusion

With the Fed's rate cuts, consumer and business sentiment should improve in the coming quarters. Companies can refinance at lower rates, likely boosting U.S. growth, and Amazon stands to gain from this in both retail and AWS sectors.

The company seems set to continue its revenue growth while also improving profitability. With a stronger cash position, we might see acquisitions or share buybacks.

Looking ahead to 2026, Amazon's stock will likely be more reasonably valued, with better growth prospects than some other large tech firms. As we approach the holiday shopping season, it wouldn’t be surprising if Amazon sets new sales records.