After a furious two-month rally that has pushed the major
indices to yearly highs, it seems to be an appropriate time to look
at stocks that have been receiving perhaps too much investor
affection. When the market takes a breather, these are often the
first stocks to be dumped by momentum investors.
So, I ran a screen for stocks that have risen at least +40% in the
last three months and sport projected 2011 price-to-earnings (P/E)
multiples above 40. There are surely some high-growth names here,
but there are also low-growth stocks that, at least at first
glance, don't merit such a strong move.
The logical rebounders
Some of these stocks are here simply because they were likely too
undervalued earlier in the summer. Back in July,
Amazon.com (Nasdaq: AMZN)
, trading at $120, was due for a rally and predicted that "as
investors start to once again embrace the company's robust
long-term outlook, shares should eventually power past the $150
mark seen earlier this spring." With shares now at $170, it's hard
to find any appeal in this stock, as it now trades for 47 times
next year's profits.
In a similar vein, health care information vendor
athenahealth (Nasdaq: ATHN)
also looked like the victim of too much pessimism early this
Read my take here
Now with a much loftier
multiple, which is nearly twice next year's sales growth forecast,
it looks like too much optimism is the name of the game.
When the market gets carried away
I am among thousands of very happy
Netflix (Nasdaq: NFLX)
customers. The video delivery and streaming service continues to
attract new subscribers at a stunning pace, and that's pushed its
stock into the stratosphere, trading at more than 40 times
projected 2011 profits. But I've seen this picture before. In 1999,
sported a very rich multiple, as investors assumed that strong
growth would continue forever. But growth started to decelerate and
shares slowly lost that P/E premium. A decade later, shares of
Walmart have gone nowhere, and still-rising sales were met with an
ever-shrinking P/E. I fear a similar fate will befall Netflix.
But Netflix is also a company that cannot afford to stumble. One
so-so quarter, and this stock is toast, as expectations are so
high. If you own shares of Netflix, it may be time to part with a
stock that has been a real winner for you.
Travelzoo's (Nasdaq: TZOO) growth spurt
This online travel site has surely posted impressive recent
results. Profits for the September quarter were double the
consensus forecast, as the company saw a +17% jump in revenue.
Results were depressed in 2009, but demand for travel is clearly on
the mend. Yet investors are clearly getting carried away, assuming
that this company can grow at a very fast pace in the next few
years. After all, the online travel market is largely mature, with
formidable competition coming from the likes of
Priceline.com (Nasdaq: PCLN)
Expedia (Nasdaq: EXPE)
Travelzoo's sales are likely to rise around +20% this year and +10%
next year -- logical assumptions in light of the +10% annualized
growth posted in 2007, 2008 and 2009. So why do shares trade at 40
times next year's projected profits? Because investors are still
reacting to recent strong results, and momentum investors smell a
winning continuing trade.
I'd hate to be around when the momentum investors take profits. We
may already be there. Shares surged strongly last week and on
Monday, but are starting to drift back Tuesday.
Room to run?
Not all of these strong gainers look ripe for profit-taking. For
Cleveland BioLabs (Nasdaq: CBLI)
, which has doubled in the last three months, could rise much
higher if it sees strong demand for its anti-radiation treatment.
The U.S. government may eventually look to stockpile the company's
drug in order to treat to the effects of a potential nuclear
attack, such as with a dirty bomb. As with any small biotech, this
stock remains speculative, and investors should do lots of homework
before jumping in.
In a similar vein,
Depomed (Nasdaq: DEPO)
is another promising biotech play that could easily trend much
higher -- if all goes according to plan. The company's oral drug
delivery platform has brought interest from a number of major large
drug companies that aim to license the technology. Depomed already
uses that technology in its drugs that treat diabetes and urinary
tract infection, and is also testing other drugs that have large
potential market sizes. The company's potential licensees are
hoping to secure FDA approval in the next few quarters. Yet I
repeat, this remains speculative, and investors should do lots of
homework before jumping in.
Action to Take -->
A strong run for a stock is not always a reason to sell. Back in
Cisco Systems (Nasdaq: CSCO)
Dell (Nasdaq: DELL)
and Walmart routinely occupied the annual best-performing lists,
year after year after year. But it's hard to find any stocks in
this group that are on the cusp of a robust long-term rise in
sales, with the possible exception of the biotechs noted above.
With the market posting a furious recent rally, a reversal may be
the next move. And if that happens, these richly-priced stocks may
be especially vulnerable.
-- David Sterman
David Sterman started his career in equity research at Smith
Barney, culminating in a position as Senior Analyst covering
European banks. David has also served as Director of Research at
Individual Investor and a Managing Editor at TheStreet.com. Read
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.