James Montier is one of the the sharpest value investors and market strategists around the financial works. His book on value investing and behavioral investing are in the stack I keep close to the desk for constant reference.
These days he hangs his hat at GMO Capital alongside Jeremy Grantham. Montier was recently interviewed by Swiss business magazine Finanz und Wirtschaft about the condition of the markets today. What he said should give you pause as you reach for the buy button to buy that glamor stock you have been chasing higher into year end:
“For all purposes, this is a hideously expensive market. I don’t care if it’s a bubble or not. It’s too expensive, and I don’t need to own it.”
No one knows precisely when a hideously expensive market will roll over and head in a more southerly direction, especially in a world of benevolent Central Bank actions. However, if and when it does, those caught owning stocks that are hideously expensive could pay a tremendous price for owning all-too-popular overvalued stocks.
Recall that the internet bubble went higher, further and longer than anyone could have rationally expected. But when it did pop fortunes were lost and lives were ruined. Owning overvalued stocks after an extended five-year bull market could end the some way.
Under Armour Inc. (UA) is a great example of this kind of overvalued stock. This is a fantastic company with good products. I have friends who won’t wear anything else unless they have to dress up for some function or another. Management has done a fantastic job of growing the company, but at this point I think the stock has been rewarded a little too well for the Under Armour’s success.
The stock fetches 87 times earnings and more than 50 times the always highly accurate analyst forecasts for 2015 earnings. If they miss an earnings estimate or see margins squeezed by an unexpected rise in material or labor costs, this stock could tumble very far very quickly.
UA is a good company whose shares trade at a hideous valuation.
NetFlix, Inc. (NFLX) is another example of overvalued stocks that most should avoid.
For the record, I love NetFlix. My wife and I have become devotees of binge watching several different shows and cannot wait until the new series of House of Cards comes out. When the new season of Orange is the New Black is released I can just figure I am on my own until she has watched the whole season.
However as good as the company may be I can think of no reason this stock should trade for 90 times earnings and 72 times the analyst expectations for next year. Even if the hit the optimistic numbers the stock would still be trading at price-to-earnings growth ratio of almost 2. It is a solid company with a badly overvalued stock right now.
Owning these overvalued stocks is a bet that everything continues to go exactly right for these companies and that someone else is going to be willing to buy your shares at an even more ridiculous valuation. Should we see a market decline in 2105, these stocks will the first to be dumped by the big institutions and the shares could suffer dramatic and possible permanent declines in value.
Don’t let hideous over valuation expose you to hideous losses in 2015.
As of this writing, Tim Melvin does not hold a position in any of the aforementioned stocks.
