Recession Risks Weigh on Online Advertising Stocks

A potential economic downturn may continue to weigh on online advertising stocks.  Concern about the sector has risen since Snap Inc (SNAP) cut its forecast in May, warning that a weaker economic outlook was weighing on its ad business.  That sparked a 40% selloff in the stock, its biggest one-day drop ever.  Other online advertisers may be as vulnerable.

Online advertisers have been feeling the heat of reduced demand for their ad businesses.  Facebook parent Meta Platforms (META) is down almost 50% this year, as is ad-tech provider Trade Desk (TTD).  The losses in these stocks have accelerated as the Federal Reserve has aggressively raised interest rates to combat inflation.  The Nasdaq 100 Index ($IUXX) (QQQ)  is down about 25% so far this year.

While the online advertising industry has benefited from the long-term tailwind of ad spending shifting to digital from print and broadcast, the growth in publicity budgets is likely to take a hit as the economy slows.  Also, higher interest rates have hurt the valuations of companies priced on expected growth far out into the future.  In addition, social-media companies have been struggling against a changed privacy policy at Apple that has diminished the company’s ability to target ads.

Expectations for slower growth have prompted industry watchers to cut their forecasts for advertising this year.  GroupM, a media investment company, expects ad revenue growth of +8.4% this year, excluding U.S. political ads.  That’s slower than the +9.7% revenue growth estimate GroupM expected for 2022 at the start of the year and well below the +24.3% pace seen in 2021.

The pandemic in its early stages benefited online advertisers as consumers were forced to remain at home and shop from their phones and computers.  However, a traditional recession later this year or next year would cool the economy and cause advertisers to cut their spending. 

Despite an expected slowdown in online advertising, the outlook for Alphabet (GOOGL) remains favorable among institutional equity analysts.  The stock has nearly a 100% buy rating among analysts, who note steady demand for its search and YouTube businesses.  Also, Alphabet is trading at less than 17 times estimated earnings, below its long-term average and the overall market average.

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