Google’s stock price has made investors happy this year. It has been helping propel the growth of the red-hot tech sector as well as the broader stock market.
But Michael Graham, an analyst at Canaccord Genuity, is downgrading the stock for one simple reason.
“Although we are generally raising revenue, gross profit, and operating income estimates, we still believe the multiple is likely to contract,” Graham said in a note to clients. “This is because it is at an all-time high.”
The price to earning multiple, often abbreviated as P/E, is a simple way to measure how much investors believe in a company. When the ratio is high, investors think a company is worth a lot more money than it is currently making. For Google, the P/E ratio has historically averaged at 16.9. Now, the ratio is at a historic high of 24.1, or 43% above the historical average.
Graham thinks this is the sole reason Google isn’t worth buying right now. In 2019, the company’s earnings are expected to increase, meaning the share price could increase to maintain the current P/E ratio. Unfortunately, Graham said he doesn’t expect the market to start looking toward those 2019 earnings until fall of this year. When they do, he says a $1,200 price would not be unreasonable, but until that point, the stock may be more subdued.
Graham currently has a price target of $1,000 based on a 23x P/E for 2018 expected earnings. Alphabet opened Thursday trading at $949.38.
It’s worth noting that Graham’s downgrade came at the end of a 17-page report detailing the many diverse successes of Alphabet’s various business components. He expects all of Alphabet’s businesses to expand through 2021 except Google’s AdSense, and even there, he thinks AdSense could stall only because Google is expanding its ad business in other areas.