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All Contents © 2019The Kiplinger Washington Editors
By James Brumley
| March 1, 2017
To say Trump-mania has taken hold of Wall Street would be a considerable understatement. Since his election in early November, stocks are up more than 11% as investors have been more than willing to bet the business-friendly president’s economic and tax agenda will do a great deal to boost corporate bottom lines.
As is so often the case though, investors have gotten a little ahead of themselves.
Investors make buying and selling decisions based on a company’s plausible future, but every now and again those investors think they see the future a little more clearly — with rose-tinted glasses — than they actually do.
With that as the backdrop, while most equities are a little too hot to handle right now for newcomers, there are a handful of names that are downright dangerous thanks to the unmerited optimism surrounding them.
Here’s a closer look at the most overrated stocks the market arguably shouldn’t love nearly as much as it does.
Prices and data are from the original InvestorPlace story published on February 27, 2017. Click on ticker-symbol links in each slide for current prices and more.
Amazon.com, Inc. (AMZN) is a perennial favorite, and downright dangerous to speak against. Its fans are also quick to point out that its shares have gained a whopping 2,215% over the course of the past 10 years.
One of the key reasons Amazon stock was able to make such a gain, however, started to show signs of trouble last quarter.
Giving credit where it’s due, Amazon Web Services (or AWS) has been a workhorse for the e-commerce giant. The cloud-computing arm of the company generated $3.5 billion worth of revenue last quarter alone, growing 47% on a year-over-year basis. In fact, a double-digit growth pace has been the norm. Better still, AWS has become a major profit center, generating $926 million worth of operating income last quarter, or roughly three-fourths of the company’s $1.25 billion in operational income.
That 47% growth pace for AWS in the fourth quarter, however, is the slowest-ever growth the division has ever seen since Amazon reported it.
Granted, that slowdown is largely a function of size — the bigger it gets, the more difficult it is to add meaningfully more revenue. But investors have largely priced AMZN shares as if the previously red-hot growth rate would never end.
And being priced for unachievable targets is a setup for disappointment.
Web Summit Via Flickr
Twilio Inc. (TWLO) has been another market darling since going public in June of last year. The company, which provides cloud-based telephonic services for business marketing purposes, watched its stock rally from an IPO price of $15 to a high near $71 in September to a low of $26 early this year back to its current price near $32.
The most recent recovery suggests TWLO shares are finally stabilizing. Problem is, the stabilizing price still doesn’t make any sense even under the most optimistic of plausible results for the near future.
It’s not the concept of the company’s product, nor is it concern that the company can grow. Twilio pumped up the bottom line from $166.9 million worth of revenue in 2015 to an impressive $277.3 million worth of sales for 2016. Similar growth is expected this year and next year.
The concern is the still-frothy market cap. With a company valuation of $2.8 billion and a price/sales ratio of 10, Twilio needs to be turning around $3 billion worth of revenue into a minimum of $500 million (give or take) worth of income per year just to justify its current valuation and be valued like its peers.
That isn’t apt to happen very soon, if at all, securing TWLO a spot on a list of the market’s most overrated stocks to sell sooner than later.
Norsk Elbilforening via Flickr
Tesla Inc. (TSLA) is another one of those stocks the market loves to love. And why not? The company has indeed mainstreamed the idea of electric vehicles, and not only holds the most market share in the category, but holds the most market share between investors’ ears.
Last quarter’s earnings report, however, confirmed a sneaking suspicion too many TSLA shareholders had been grappling with.
Never mind the earnings miss; neither the spending-happy company nor TSLA shareholders have ever been terribly concerned about turning a profit during this early stage of its existence. The concerning red flag that’s started to wave (again) is the company’s constant need for more cash. CEO Elon Musk conceded just a few days ago the company is likely to need yet-another cash injection soon. That means another secondary offering or the issuance of new debt.
One has to wonder when, or even if, Tesla will become self-sustaining.
Larry D. Moore via Wikimedia (Modified)
National Instruments Corp. (NATI) is hardly a household name. The $4.2 billion company makes software exclusively for engineers and scientists, and testing equipment for hardware. There’s a market for it, to be sure, even if not a big one; National Instruments doesn’t have any real peers. That may be why each of the three analysts covering it deem NATI a “strong buy,” or an equivalent rating.
There are limits, though, even when the future looks bright.
Experts collectively expect this year’s bottom line to grow from last year’s 69 cents per share to 93 cents per share, with that outlook rising to $1.19 per share of NATI the following year. What those optimistic analysts haven’t explained yet is exactly how or why the company is going to reach those lofty goals.
National Instruments hasn’t grown revenues more than 6% in any of the past three fiscal years.
With a dividend yield of 7% that’s paid like clockwork, cigarette company Vector Group Ltd (VGR) seems like a solid play. Throw in the fact Vector manages to find a way to keep growing the top and bottom lines even against a headwind of smoking cessation, and the company is even more impressive.
Look under the hood, however, and you might not like what you find.
That dividend Vector Group Ltd is paying? It can’t afford it. It has dished out $1.58 worth of dividends per share for the past four reported quarters, but has only earned 57 cents per share during that time; not in one single quarter has it covered its dividend payment with an actual profit.
Something’s going to have to give sooner or later no matter how optimistic the company may be regarding its future.
Poster Boy via Flickr
Kudos to Dish Network Corp. (DISH) for answering the cord-cutting problem by becoming one of the alternatives — SlingTV is a Dish Network product, getting the company into the online-television game as the number of traditional cable subscribers continues to tumble.
Thing is, the competition is just as fierce in the fast-growing internet television arena, and perhaps even tougher. Sony Corp (SNE) is offering a fantastic alternative to cable called Vue, and AT&T Inc. (T) property DirecTV gives consumers yet another viable choice. More are on the way too. Even Apple Inc. (AAPL) is also still rumored to be working on a so-called skinny bundle that negates the need to traditional cable television, as it starts to create its own original video content.
Oh, and the digitally delivered IPTV business is also a lower-margin business, as advertisers still aren’t willing to spend the way they do with coaxial cable-delivered content. And these providers just don’t have as much pricing power as they do with traditional cable service (which are often a duopoly in too many markets). These “alternatives to the alternative” aren’t limited by any geography, whereas cable providers have historically been able to defend their local turf.
All of a sudden, that 32% gain that DISH shares have mustered over the course of the past 12 months — and the subsequent trailing P/E of 30 — are more than a tad troubling.
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It’s entirely possible you’re a beneficiary of a service provided by Echostar Corporation (SATS) without even realizing it. The company provides satellite video and data for business and consumers, including companies like … Dish Network.
Better still, SATS shares are up more than 50% for the past 12 months, making it one of Wall Street’s most rewarding names to own during that time.
Unfortunately, that big move is mostly just an indication that SATS is one of the market’s most overrated stocks. Echostar shares are valued at a forward-looking P/E of 40, which is downright crazy considering that it’s not operating in a growth industry.
If there’s any group of stocks that arguably should be given a pass in terms of valuation, it’s biopharma stocks. Quite often, a drugmaker is developing what could be a game-changing therapy, and an investor has to be willing to pay a premium now for revenue that’s apt to come in the future.
There are limits, however, and Incyte Corporation (INCY) passes them.
Incyte is already bearing revenue with its myelofibrosis (a bone marrow disorder) drug Jakafi and leukemia therapy Iclusig. It also has monetized several other drugs and services. Better still, INCY has pumped up the top line enough since 2012 to swing to a solid profit last year, turning $1.1 billion worth of revenue into $104 million worth of net income. Similar growth is expected this year and next year as well, driven by its development pipeline as well as expansion of Iclusig and Jakafi.
Investors are paying a major premium (read “too much”) to participate in that growth, though, considering profit margins are at normal levels right now. INCY shares are valued at a whopping 115.1 times its forward-looking earnings and 22.5 times its trailing revenue. It’s going to be a long while before those multiples are justified with real results no matter how impressive the portfolio becomes.
That qualifies INCY as one of the market’s most overrated stocks.
This article is by James Brumley of InvestorPlace. As of this writing, he held none of the aforementioned securities.
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