Alphabet Inc. (NASDAQ:GOOGL) has surged 3.43% over the last six months, as of October 15. This compares to a 21.5% return for the Insider Monkey Billionaire Index and 15.74% for the State Street SPDR S&P 500 ETF Trust.
Alphabet’s business is growing, but the stock’s valuation needs a closer look. Google Search is still generating strong growth, and Google Cloud is becoming a more important source of earnings. The problem is that Alphabet’s trailing P/E looks much lower than it should because of a massive gain on its investments. Meanwhile, spending on AI is rising so quickly that investors need to know whether today’s growth will translate into higher cash flow over time.
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Search Is Holding Up, but the Competition Is Changing
Google Search revenue grew 17% to $63.3 billion in the second quarter of 2026. YouTube advertising revenue rose 13% to $11.1 billion. These are strong results for businesses that were supposed to be at risk from AI chatbots.
Google is also finding ways to make AI useful to advertisers. Its tools can interpret longer searches and help match them with relevant ads. This could open up queries that were previously harder to monetize. However, the company’s claims about improved advertising conversions come from its own customers and don’t necessarily tell the whole story.
The bigger risk is how people search for information. OpenAI’s ChatGPT and Anthropic’s Claude give users alternatives to traditional search, particularly for questions that need a detailed answer rather than a list of links. Google still accounted for about 90% of traditional search-engine share worldwide in September, according to StatCounter, but that measure doesn’t capture people who use AI assistants instead. Google’s recent efforts to make links more prominent in AI search results also show that it needs to balance answering questions directly with sending traffic to publishers.
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Cloud Is Growing Fast, but AWS and Azure Are Still Ahead
Google Cloud is the other major part of the story. Revenue increased 82% to $24.8 billion in Q2, while operating income rose to $8.8 billion and its operating margin reached 35.6%, up from 20.7% a year earlier.
The $514 billion backlog is encouraging, with more than half expected to turn into revenue over the following 24 months. Google says most of it comes from regular Google Cloud Platform contracts across a broad customer base. However, it hasn’t disclosed enough detail to assess customer concentration or how much of the backlog depends specifically on AI.
There is still plenty of ground to cover. Synergy Research estimated that AWS held 28% of the cloud infrastructure market in Q2 2026, compared with 20% for Microsoft and 15% for Google. Google’s growth is impressive, but it remains the smaller player. The opportunity is to keep winning business without sacrificing too much margin to meet demand. Google has already warned that using third-party computing capacity while it builds its own will weigh on Cloud margins in the near term.
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Valuation: The Trailing P/E Doesn’t Tell the Whole Story
Alphabet Inc. (NASDAQ:GOOGL) trades at 17.62x trailing earnings and 22.83 times forward earnings. Normally, a lower trailing multiple than the forward multiple can suggest that earnings are expected to fall. Here, what caused the lower trailing P/E is that reported earnings were inflated by investment gains.
Alphabet recorded $98 billion in net other income in Q2, including about $99 billion in gains on equity securities, primarily from SpaceX and another private company. These gains were largely unrealized, meaning Alphabet had not sold the investments to realize the profits in cash. The gains can reverse if the valuations of those investments fall.
That makes the 17.62 times trailing P/E misleading. A rough adjustment for the after-tax impact of the investment gain puts the trailing multiple closer to 26x, rather than 17.62 times. This is an estimate, not a company-reported adjusted multiple, but it gives a more useful picture of what investors are paying for Alphabet’s underlying earnings.
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The 22.83x forward P/E is more relevant, provided earnings continue to grow. Revenue increased 24% to $119.8 billion in Q2, and operating income rose 30% to $40.8 billion. Those figures show that the core business is performing well, independent of the investment gain. While Google may not necessarily be a bargain at these levels, it is worth considering for long-term investors.
Alphabet’s Other Bets add another angle to the valuation, with Waymo’s robotaxi business and Isomorphic Labs’ drug discovery work offering opportunities beyond Search and Cloud. These businesses are still at an early stage and losing money, but if even one becomes a meaningful profit contributor, Alphabet could be worth more than its current earnings suggest.
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The Cost of AI Is Becoming Harder to Ignore
Alphabet spent $44.9 billion on capital expenditure in Q2, about 37% of quarterly revenue. It raised its 2026 capex guidance to $195 billion to $205 billion and expects spending to increase significantly again in 2027. Free cash flow was negative $5.9 billion in Q2, despite $39.1 billion in operating cash flow.
The balance sheet gives Alphabet room to invest. It had $242.5 billion in cash, cash equivalents, and short-term marketable securities, against $98.2 billion in long-term debt. However, $87.1 billion of those assets were marketable equity investments, so not all of that liquidity is equivalent to cash.
Alphabet also has to deal with legal challenges in the US. Recent rulings require changes to its advertising technology business and force Google to share some data with competitors. The search case also puts limits on certain exclusive distribution deals. None of this means Google’s business is suddenly in trouble, but these changes could make it harder to protect the advantages it has built over the years.
Alphabet is still an attractive business. The stronger case is that Search continues to grow while Cloud gains ground on AWS and Azure. At 22.83x forward earnings, the valuation looks reasonable, provided the growth continues. The bigger question is whether Alphabet can make enough money from AI to justify what it is spending on it. The next earnings report, which is in less than two weeks’ time, will be worth watching for Search and Cloud growth, but also for capital spending and free cash flow. If revenue keeps growing and cash flow starts to improve, the investment case gets stronger. If spending continues to rise without a similar payoff, the stock could struggle even if the business itself remains strong.
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Market Sentiment
Alphabet was held by 275 hedge funds with a combined stake value of about $93.74 billion at the end of Q2 2026 in the Insider Monkey database. This is up from 265 hedge fund holders with a cumulative investment value of around $72.41 billion in the previous quarter. Both figures increased, pointing to stronger hedge fund interest.
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This article is originally published at Insider Monkey.
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