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Amazon Down but Not Cheap Enough

A post-earnings downturn merely chips away at this richly valued stock.

Shares of

(AMZN) - Get Report

are getting crushed.

But considering the stock's run this year and the rich valuation it commands, shareholders can't really complain.

Shares of the online retail giant were off nearly 15% to $86 in recent trading on Wednesday, a day after the company reported third-quarter earnings. While Amazon edged ahead of Wall Street's top- and bottom-line expectations, the company couldn't hold up against increasingly heady expectations.

Still, shares of Amazon are up almost 120% year to date, making it the best-performing large-cap stock in the Internet sector by a wide margin. Runner-up


(GOOG) - Get Report

has climbed "only" 45% this year.

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Amazon also remains the most richly valued. Its shares trade at about 55 times forward earnings, and the stock commands a price-to-earnings-to-growth ratio of almost 4. Google trades at about 32 times forward earnings and has a PEG ratio of 1.3.

That means investors should hesitate before viewing the current selloff as a buying opportunity. Wednesday's downturn may be overdone given the broader market's decline -- the


was off 2.2% in afternoon trading. And Amazon may move higher as part of a broader recovery.

Despite the company's impressive progress, it's difficult to make the case for the stock at these levels.

"We view Amazon as a core Internet holding. But we remain neither buyers nor sellers," Citigroup analyst Mark Mahaney wrote in a research note on Wednesday. "Accelerating organic revenue growth, units, and active customers are all impressive -- Amazon is very likely taking share. But now that incremental margins are trimming down, Amazon's EPS growth outlook isn't so open-ended, and Amazon's valuation deserves tighter scrutiny." Citigroup makes a market in Amazon shares.

Wednesday's selloff is to be expected given: a more than 10% run-up the stock saw Tuesday in anticipation of earnings, the 17% gain it has made for the quarter, and that at 65 times 2008 consensus estimates, it was "priced for perfection" Mahaney wrote.

On the other hand, the company's solid quarter was enough to make some Amazon bulls even more confident. The number of items sold on Amazon grew a hefty 32% year over year, thanks in part to the success of the company's Prime program.

"While active user growth was also impressive at 17% year over year, we think the 15% spread between units/user growth is a clear sign that its Prime program is driving the desired consumer behavior: higher frequency," Deutsche Bank analyst Jeetil Patel wrote in a research note on Wednesday, raising his price target to $110 from $100. Deutsche Bank makes a market in Amazon shares.

But Patel's price target for Amazon is among the highest on Wall Street. And even Amazon bulls have to concede that the stock is richly valued. "While we fully acknowledge that our EPS multiple is higher than sector averages," Patel wrote, "we believe a premium is justified given the company's continued fundamental growth, evidence of return to improved operating leverage and the long term potential of its technology investments."