Sidekick Money · Earnings season anxiety, cloud wars and… an unloved sector

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Welcome to this week’s Market Pulse, your 5 minute update on key market news and events, with takeaways and insights from the Sidekick Investment Team.

Our three stories this week are:

Earnings season anxiety
Cloud wars
An unloved sector

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Read the full Market Pulse below, or if you want to access it on the go, download the Sidekick app.

Adrian (Portfolio Manager), and the rest of the Sidekick team.

It’s important to note that the content of this Market Pulse is based on current public information which we consider to be reliable and accurate. It represents Sidekick’s view only and does not represent investment advice - investors should not take decisions to trade based on this information.

1) Earnings season anxiety

This earnings season was anticipated to ease investor’s concerns going into the end of the year. Thus far, it has done quite the opposite. With more than 500 companies reporting over the past ten days, the post-earnings market reactions range from muted to exceptionally negative.

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It's not hard to see why. Fuelled by the AI frenzy since the beginning of the year, expectations have surged, especially for the so-called Magnificent Seven technology companies: Apple, Microsoft, Google, Tesla, Nvidia, Amazon and Meta [8].

Consequently, valuations have also surged—for instance, the Nasdaq trades at around 23 times the price-to-earnings ratio. At the same time, US Treasuries offer a 5% yield, the highest in 16 years [9]. This leaves little room for error, and as a result, we've observed that, in some cases, stock multiples have decreased when companies slightly miss their earnings expectations. On the other hand, when companies beat their earnings expectations, the market response has been relatively subdued. Take Meta, for example, which reported impressive earnings but cautioned about next year's outlook [10]. As of now, their stock is down by -5%.

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Even after the recent pullback in the past few days, the Nasdaq has gained more than 21% since the start of the year. This suggests that there could be plenty of euphoria still left. Extra attention to valuation is as critical as ever.

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2) Cloud Wars

In the sea of red across our Bloomberg terminals, Microsoft was a green spot this week when they reported an acceleration in Azure (its cloud computing platform) from 27% year over year in the previous quarter to 28% [1]. The shares gained 3% on the day. Meanwhile, investors wiped $165 billion off Alphabet's market cap when their cloud business decelerated in Q3 to 23% growth yoy from 25% in the previous quarter [2] and caused margins to rise less than expected.

With both companies reporting simultaneously, there was no shortage of headlines over the head-to-head battle for AI supremacy, clearly won by Microsoft on the day based on the numbers. But while the focus was concentrated on search disruption at the beginning of the year, the AI impact has shifted to Cloud.

Cloud has been the big story for software in the past decade with the emergence and fast growth of pure-play SaaS (software-as-a-service) vendors like Salesforce and the transition of large and small on-premise software vendors to the Cloud.

This shift has given birth to the significant IaaS/PaaS (infrastructure/platform-as-a-service) sector, fuelling major enterprises like Amazon, Microsoft, Google, and Oracle. The move to the Cloud has reshaped IT spending and driven remarkable growth for these companies.

But while SaaS Cloud is a fragmented market with few barriers to entry, IaaS/PaaS Cloud is a capital-intensive business that requires scale to succeed. As a result, only a handful of larger players are able to meet the entry barriers in order to compete. in a ~$2 trillion total addressable market that is still less than 25% penetrated [3].

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Additionally, Cloud migrations require significant investments and are lumpy by nature, which makes quarter-by-quarter performance more volatile. Investors are naturally concerned about momentum and have quickly extrapolated the recent results.

However, when we consider the broader cloud opportunity, it's not clear that this is a zero-sum game where one company's success comes at the expense of another. While Microsoft won a battle over Google, the latest results show that both companies are thriving in their own right.

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3) An unloved sector

The title might lead you to expect a story about tobacco, utilities, or telecommunications rather than one about what was, until recently, the hottest areas in fintech. We previously discussed the growing competition in the payments industry, which had led the shares of Adyen and Paypal to linger around multi-year lows [4]. Unfortunately, this year continues to be relentless for the sector.

In the most recent unsettling development, Worldline, the French-based payment processor, dealt a heavy blow to the industry's reputation with a profit warning that again sent shockwaves through the sector. On Wednesday, their shares plummeted by -60% [5], dragging down the entire industry. Adyen experienced an 8% drop, while PayPal and Block saw 5% and 8% declines, respectively. Another player, Nexi SpA, suffered a 15% slide.

In its release, Worldline cited macro weakness in Germany and the termination of high-risk relationships as key factors. Still, Visa, which reported the day before, didn't call out any European macro weakness.

Visa's Europe volumes ex-UK grew more than 20% [6] - mainly in line with prior quarters. Cross-border travel in and out of Europe was also healthy in Visa's numbers. Visa does have a small presence in Germany compared to other countries. Still, Worldline's problems seem to be more company-specific than broader market issues.

Indeed, per an article in Handesblatt on 7th Sept [7], Bafin - the German regulator - has restricted the business of payment service provider Payone - a company owned by Worldline. The supervisors noted deficiencies in the prevention of money laundering.

Hence, while the reaction to Worldline may appear justifiable, a further broad selloff of the sector solely based on this development merits a second thought.

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Notices

Please remember, investing should be viewed as longer term. Your capital is at risk — the value of investments can go up and down, and you may get back less than you put in.

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