2017 has been a good year for the equity markets. The S&P 500 has gained nearly 20% so far this year; the Nasdaq Composite over 26%. Big-cap tech, including the so-called “FANG” stocks, is up big. Semiconductor stocks have soared, at least until a recent pullback. Other than retail and oil and gas, it has been a banner year pretty much across the board.
The rising tide of the broad market hasn’t lifted all boats, but it has lifted an awful lot of them. Still, some of those boats look a little leaky, particularly those with big gains so far this year. How the broad market will respond next year — the ninth of the current bull market — is unclear.
But for these stocks, big 2017 gains seem likely to be followed by 2018 losses. Here are 10 stocks to sell, despite their impressive gains in 2017:
Stocks to Sell: Square (SQ)
YTD Gain: 170%
Optimism about the company’s bitcoin pilot has helped the stock, and it’s likely a short squeeze has contributed as well. SQ stock has pulled back 22% already, though, after a parabolic rise last month.
I like Square as a company, and it has an intriguing opportunity in serving small businesses. But the move to add a banking license adds significant risk: nothing looks worse in an economic downturn than holding a portfolio of small business loans. Bitcoin adds volatility, and margins in the payment space typically aren’t that impressive.
With expectations so high, there’s still a good chance Square will disappoint. It’s a safe bet that Square won’t rise another 170% in 2018 — at the moment, I’d bet it will actually decline.
Stocks to Sell: Weight Watchers (WTW)
YTD Gain: 301%
Weight Watchers International, Inc. (NYSE:WTW) has had a monster year. Of stocks worth over $2 billion, only Straight Path Communications Inc (NYSEAMERICAN:STRP) — the subject of a bidding war between AT&T Inc. (NYSE:T) and Verizon Communications Inc. (NYSE:VZ) — has had a better 2017.
But the gains look a bit much. WTW is growing nicely, but much of that growth simply is coming from recapturing customers lost during the company’s years in the wilderness. New spokeswoman — and 10% owner — Oprah Winfrey has helped business, and made nearly $400 million in the process, but the boost there should fade as comparisons get tougher.
Like SQ, Weight Watchers likely has benefited from a short squeeze, with nearly 30% of the float sold short at the moment. Those shorts have a decent case based on valuation and what is still a long-term decline in revenue. They may have to wait until 2018, but that trade should work out at some point.
Stocks to Sell: Planet Fitness (PLNT)
YTD Gain: 70%
Another consumer stock with a large short interest, Planet Fitness Inc (NYSE:PLNT) has shrugged off the doubters and trades near an all-time high. But here, too, the stock seems likely to come back to Earth at some point.
There simply are a lot of concerns here. Valuation looks increasingly stretched, with PLNT trading at 33x 2018 EPS estimates. The gym space is starting to look a little overbuilt, with privately held concepts like Anytime Fitness, Snap Fitness and 24 Hour Fitness all building out their footprints and low-cost competitors proliferating as well.
Planet Fitness franchises nearly all of its gyms, which is great for margins while the business is growing, but portends amplified trouble if growth stalls out. Roughly a third of revenue comes from equipment sales to those franchisees — a revenue stream which will slow markedly as expansion does.
Betting against PLNT admittedly has been a sucker’s bet so far, and the stock has driven a good amount of short-seller losses. But at these valuations, the question seems no longer if PLNT will pull back, but when.
Stocks to Sell: Alibaba (BABA)
YTD Gain: 95%
Even a torrid market for large-cap tech, only one company this year has added more value to its market cap than Alibaba Group Holding Ltd (NYSE:BABA). That stock, of course, is Apple Inc. (NASDAQ:AAPL), the world’s most valuable company.
It’s easy to see why BABA has posted gains this year. China-focused stocks as a whole are doing extremely well. The company’s cloud business is something of a secret weapon for the stock, as I wrote back in February. Optimism toward large-cap tech has helped, and Alibaba maintains a dominant market share lead over the second-place Chinese online retailer, JD.com Inc(ADR) (NASDAQ:JD).
But BABA stock already has begun to weaken, dropping about 9% from its all-time high reached last month. And risks are starting to mount. Concerns persist related to Alibaba’s accounting and corporate structure. JD is taking market share. Sales of counterfeit goods raise regulatory risk. And the long-held worries about the health and true nature of the Chinese economy seem likely to come back at some point.
In theory, BABA’s gains this year make some sense, as does its status as the seventh-largest company on U.S. exchanges by market cap. It is the e-commerce leader in a growing economy with over 1 billion citizens, after all. But in practice, the story isn’t quite that good — and the gains shouldn’t be quite this big.
Investors seem to be figuring that out at the moment. And in 2018, I expect BABA at best will go back to its pre-2017 sideways trading.
Stocks to Sell: Caterpillar (CAT)
YTD Gain: 54%
You can add Caterpillar Inc. (NYSE:CAT) to the “good company, bad valuation” pile. And to be fair, there are reasons for optimism. Revenue and earnings are guided to grow this year, after the company saw sales drop for four consecutive years for the first time in its history.
Expectations have steadily risen, and sentiment on the ground is improving. Billions of dollars in costs have been taken out of the business, meaning margins should look much better as that end demand improves.
But this is is a stock that now has risen over 150% in less than two years. And there’s some double-counting going on here. The 2016 rally was based in large part on the idea that, as a cyclical stock, CAT should see its earnings multiple expand near the bottom of the cycle. Now that the cycle appears to be turning back in CAT’s favor, analysts and investors are giving credit for the growth that — at least in theory — should have been included in those valuation-based gains a year ago.
Meanwhile, the cost cuts likely have to have some impact on operations, and the idea that CAT can get back to 2011-2012 peaks — driven by what looks in retrospect like a commodity bubble — is ridiculously optimistic. CAT shouldn’t have traded below $60, but a price near $150 is incorporating years of growth. If there’s a stumble at all in 2018, either from an operational or macro standpoint, CAT stock is going to fall hard.
Stocks to Sell: Abercrombie & Fitch (ANF)
YTD Gain: 50%
After a long ugly ten months, the retail space has come alive, and Abercrombie & Fitch Co. (NYSE:ANF) has been one of the beneficiaries. ANF stock has nearly doubled from August lows, buoyed by strong Q3 earnings and hopes for a turnaround.
But as I wrote just two weeks ago, the gains look seriously overdone. ANF still is barely profitable on a net basis. There were rumors of a takeover by rival American Eagle Outfitters (NYSE:AEO) earlier this year, but AEO passed, even with the ANF stock price at a much lower level.
More broadly, we’ve been here before, and nothing has really changed. The “turnaround” at A&F has been going for better than a decade, yet even with help from bankruptcies of other teen-focused retailers like Aeropostale, Rue21 and Pacific Sunwear, little progress has been made. Comps are still stagnant, mall traffic continues to decline and profitability remains narrow.
These bouts of optimism toward ANF have historically faded, and I expect the recent run will as well. I’m skeptical about the overall gains in retail over the past few weeks, but even that aside, ANF looks due for a pullback.
Stocks to Sell: Glu Mobile (GLUU)
YTD Gain: 120%
It’s easy to see why there’s some optimism toward Glu Mobile Inc. (NASDAQ:GLUU). The company has executed a strong turnaround so far in 2017. Bookings (revenue with changes in deferred revenue added back) are guided to rise a sizzling 46% this year. Glu is targeting EBITDA profitability in Q1, with a new Taylor Swift game expected to help full-year 2018 results as well.
And the mobile gaming space is doing well. Shares of Zynga Inc (NASDAQ:ZNGA) (who also could be considered for this list) are up 49% so far this year. Activision Blizzard, Inc. (NASDAQ:ATVI) unit King Digital has helped drive ATVI stock higher. Even Churchill Downs, Inc. (NASDAQ:CHDN) was able to offload its Big Fish Games business for more than it paid — a modest surprise given performance had been relatively choppy recently, at best.
But the gains in the sector are already looking a little stretched — and there’s a lot going against GLUU as the calendar turns to 2018. Expectations obviously have increased, yet this is a company that basically never has been able to generate consistent profitability. GLUU has a solid balance sheet, but it has burned $37 million in cash this year, roughly as much as it did in 2015 and 2016 combined.
All told, GLUU is a weaker, smaller operator in a competitive space that looks due for a pullback. It’s a dangerous combination, particularly with a share price that has more than doubled so far this year.
Stocks to Sell: Eldorado Resorts (ERI)
YTD Gain: 90%
For now, Eldorado Resorts Inc (NASDAQ:ERI) gets the nod, but many of the regional casinos can go on the list. Pinnacle Entertainment Inc (NASDAQ:PNK) and Penn National Gaming, Inc (NASDAQ:PENN) have both doubled so far this year, and reportedly talking about a merger. Monarch Casino & Resort, Inc. (NASDAQ:MCRI), which owns just two properties, is up 80%+, with M&A speculation likely helping those gains.
To be fair, the amount of leverage (i.e., debt) on balance sheets in the sector amplifies the impact of rising valuations on the equity prices. But those valuations now are near or in some cases above 2007 levels from which the sector quickly collapsed.
I do think real estate investment trust Gaming and Leisure Properties Inc (NASDAQ:GLPI), which now owns most of the Penn and Pinnacle properties, is an interesting dividend play. That stock made the InvestorPlace list of 10 high-yield stocks that won’t cut their dividend next year, but that’s because GLPI has downside protection at the cost of missing out on this year’s upside.
For the operators, however, it’s starting to look like we’re near a top. Valuations are just too high. Growth has slowed down considerably after a strong 2015-2016. And the same debt that has provided leverage on the way up could provide an anchor on the way down.
ERI, after its acquisition of Isle of Capri, is the most indebted, and most — if not all — of the benefits of that acquisition look priced in. Given the gains so far, I’d expect the sector to slow down substantially. Given the debt and the sensitivity to the macro economy, any broad market weakness will be magnified in shares of ERI and its peers.
Stocks to Sell: LendingTree (TREE)
YTD Gain: 208%
To be fair, investors have been calling for an end to the run in LendingTree Inc (NASDAQ:TREE) for a while now, and the stock has shown no signs of slowing down. In fact, I called it due for a crash all the way back in May and TREE has doubled again.
But the valuation sure looks stretched for what is essentially a marketing company. TREE trades at 60x 2018 EPS estimates — a huge multiple in any market. Growth has been impressive, particularly as LendingTree diversifies away from its core mortgage business, but credit standards look loose, which makes TREE an intriguing ancillary short on any tightening in 2018.
This is a good model, with strong margins and impressive growth. But price matters, and if investors remember that key fact, TREE is due for a pullback in 2018.
Stocks to Sell: Conn’s Inc (CONN)
YTD Gain: 165%
Electronics retailer Conn’s Inc (NASDAQ:CONN) is one of the toughest stocks in the market to value and one of the toughest stocks to time. The company’s heavy reliance on high-interest financing to lower-quality credit risks adds a significant degree of variability to profits.
The catch, particularly after big gains so far this year, is that isn’t necessarily a good thing. Aaron’s core business has struggled, with its stock gains driven mostly by its Progressive lending unit. RCII remains a mess, even with potential buyout interest.
Conn’s is a popular short, but it’s a dangerous one as well. Short interest is nearly 29% of the float, raising the potential for a squeeze. Earlier this decade, the stock went from under $10 to nearly $80, as optimism toward its credit offerings spiked and shorts were trampled in the rally. The pattern may be repeating at the moment, as improved lending standards and profitability are re-igniting that optimism.
Still, there’s going to be a pullback here. Credit risk isn’t gone by any stretch. Retail industry weakness is still a factor, with businesses like Progressive moving similar finance options online. Same-store sales are falling, and CONN’s is one bout of macro concern away from a big decline. This is a story that works until it doesn’t, as investors learned just a few years ago. I expect that lesson will be imparted again next year.
As of this writing, Vince Martin did not hold a position in any of the aforementioned securities.