Will Netflix Stock Rally 40% To Return To Pre-Inflation Shock Highs?

Netflix stock (NASDAQ:NFLX) currently trades at $486 per share, about 30% below its pre-inflation shock high of about $692 seen on November 17, 2021. The stock could have the potential for considerable gains if it recovers to these levels. Netflix stock was trading at a low of about $167 in mid-June 2022, just before the Fed started increasing rates. The stock has gained a solid 168% from these levels. In comparison, the S&P 500 gained about 25% during this period. In recent quarters, Netflix has benefited from optimism surrounding its new ad-supported plan and its move to cut down on password sharing in North America and many international markets, while offering a new paid sharing option. Netflix also posted a better-than-expected set of Q3 2023 results. While sales grew 7.8% to $8.54 billion, operating income rose to $1.92 billion. The company also added 8.76 million global paid subscribers over the quarter.

Looking at a slightly longer period, NFLX stock has seen a decline of 10% from levels of $540 in early January 2021 to around $485 now, vs. an increase of about 25% for the S&P 500 over this roughly 3-year period. However, the decrease in NFLX stock has been far from consistent. Returns for the stock were 11% in 2021, -51% in 2022, and 65% in 2023 (YTD). In comparison, returns for the S&P 500 have been 27% in 2021, -19% in 2022, and 23% in 2023 (YTD) – indicating that NFLX underperformed the S&P in 2021 and 2022. In fact, consistently beating the S&P 500 – in good times and bad – has been difficult over recent years for individual stocks; for other heavyweights in the Communication Services sector including GOOG, META, and TMUS, and even for the megacap stars TSLA, MSFT, and AMZN.

In contrast, the Trefis High Quality (HQ) Portfolio, with a collection of 30 stocks, has outperformed the S&P 500 each year over the same period. Why is that? As a group, HQ Portfolio stocks provided better returns with less risk versus the benchmark index; less of a roller-coaster ride as evident in HQ Portfolio performance metrics. Given the current uncertain macroeconomic environment with high oil prices and elevated interest rates, could NFLX face a similar situation as it did in 2021 and 2022 and underperform the S&P over the next 12 months – or will it see a recovery?

Returning to the pre-inflation shock level means that Netflix stock will have to gain about 42% if the stock recovers from $486 currently to its pre-shock highs of $692. While the stock may recover to those levels, we presently estimate Netflix valuation to be around $410 per share, about 15% below the current market price. This is because the recent uncertainty in the financial sector has made investors concerned about a potential recession. Netflix’s business may see an adverse impact if the U.S. economy were to go into recession, with consumer spending cooling. Netflix also trades at about 34x consensus 2024 earnings, which we believe is relatively high.

Our detailed analysis of Netflix upside post-inflation shock captures trends in the company’s stock during the turbulent market conditions seen over 2022 and compares these trends to the stock’s performance during the 2008 recession.

2022 Inflation Shock

Timeline of Inflation Shock So Far:

• 2020 – early 2021: Increase in money supply to cushion the impact of lockdowns led to high demand for goods; producers were unable to match up.
• Early 2021: Shipping snarls and worker shortages from the coronavirus pandemic continue to hurt the supply
• April 2021: Inflation rates cross 4% and increase rapidly
• Early 2022: Energy and food prices spike due to the Russian invasion of Ukraine. Fed begins its rate hike process
• June 2022: Inflation levels peak at 9% – the highest level in 40 years. S&P 500 index declines more than 20% from peak levels.
• July – September 2022: Fed hikes interest rates aggressively – resulting in an initial recovery in the S&P 500 followed by another sharp decline
• October 2022: Fed continues rate hike process; improving market sentiments help S&P500 recoup some of its losses.
• Since August 2023: the Fed has kept interest rates unchanged to quell fears of a recession, although another rate hike remains in the cards.

In contrast, here’s how NFLX stock and the broader market performed during the 2007/2008 crisis.

Timeline of 2007-08 Crisis

• 10/1/2007: Approximate pre-crisis peak in S&P 500 index
• 9/1/2008 – 10/1/2008: Accelerated market decline corresponding to Lehman bankruptcy filing (9/15/08)
• 3/1/2009: Approximate bottoming out of S&P 500 index
• 12/31/2009: Initial recovery to levels before accelerated decline (around 9/1/2008)

Netflix and S&P 500 Performance During 2007-08 Crisis

NFLX stock rose from nearly $3 in October 2007 to $5.20 in March 2009 (as the markets bottomed out), implying that the stock gained about 70%, defying the market sell-off. It rose further to around $7.90 in early 2010, rising roughly 52% between March 2009 and January 2010. The S&P 500 Index saw a decline of 51%, falling from levels of 1,540 in September 2007 to 757 in March 2009. It then rallied 48% between March 2009 and January 2010 to reach 1,124.

Netflix Fundamentals Over Recent Years

Netflix revenues have risen from around $15.8 billion in 2018 to about $31.60 billion in 2022, as the company’s subscriber base and average revenues per subscriber expanded, driven by its sizable investment into content and its international expansion. Net income has also picked up, rising to about $4.5 billion in 2022 from about $1.2 billion in 2018, as net margins picked up with cost absorption improving with the company’s higher subscriber base.  Netflix’s financial position also appears stable, with the company holding about $8 billion in cash and short-term investments as of the most recent quarter, and its long-term debt standing at about $14 billion. 

Conclusion

With the Fed’s efforts to tame runaway inflation rates helping market sentiment,  Netflix (NFLX) stock has the potential for gains once fears of a potential recession are allayed.

[1] Month-to-date and year-to-date as of 12/19/2023
[2] Cumulative total returns since the end of 2016

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