Sometimes a stock looks so enticing that investors just can’t help themselves.
The market appetite is such that the stock rockets higher, leaving behind most reasonable measures of the company’s worth. To commemorate this week’s Thanksgiving feasts, BusinessWeek went hunting for stocks that have arguably inspired feeding frenzies over the past year.
Arguments over what a stock ought to be worth are always subjective. And many of these firms deserve premium valuations: They are among the most innovative firms in the market. But, by most metrics, investors should beware before taking a second helping of these stocks.
1. Amazon.com
Despite recession and weakness among consumers, online retailer Amazon.com has had a stellar year. And many investors expect a profitable holiday season and good prospects for the firm’s growth initiatives, including the Kindle electronic book reader.
Amazon is so popular among investors that its stock is up 279 percent from a year ago. That has brought its valuation to stratospheric heights.
The most popular measure of valuation is the price-to-earnings ratio, or p-e ratio. According to data provider Capital IQ, Amazon’s p-e ratio based on projected earnings in the next 12 months is an eye-popping 57.4. According to Thomson Reuters, the forward p-e for the entire Standard & Poor’s 500-stock index is 14.9.
Investors are willing to pay so much for Amazon stock because of its rapid growth. The firm has grown earnings at a long-term rate of almost 25 percent, according to CapIQ.
“As long as this company is growing at a fast clip, people are going to be willing to overpay for that growth,” Morningstar analyst Larry Witt says.
But if any part of Amazon’s growth plans falter or its growth slows just a bit, the stock could be punished severely. And there are several reasons to worry, Witt says: New online competition from Wal-Mart poses a threat….