Tech stocks have served as the backbone of market growth in many respects. Not only has the tech industry boomed but technology has fundamentally reshaped other industries such as retail, media and transportation. But many companies at the center of this tech boom may have run too high too fast, leading to very high(P/E) ratios. And investors should be checking their portfolios for overvalued tech stocks.
Of course it’s possible that these tech stocks will continue to move higher. However, investors must remember that every transaction involves both a willing buyer and a willing seller at a given price. Some of these stocks have simply exceeded the company they represent.
Students of history remember that the 90’s tech boom saw many one-time high-flyers end up in bankruptcy in the 2000-2002 period. Even many of the more stable companies such as Intel (NASDAQ:INTC) or Cisco (NASDAQ:CSCO) fell 75-plus% from their highs — highs neither stocks have recovered despite significant rebounds. Also, crashes such as 1987 and 2008 which did not center on tech still hurt tech stocks significantly.
History can easily repeat with another crash. However, by remaining cognizant of valuations, investors can protect their wealth and possibly profit from such a downturn. Investors should stay particularly vigilant about these 5 overvalued tech stocks:
Overvalued Tech Stocks to Sell: Square Inc. (SQ)
Square (NYSE:SQ) revolutionized credit-card payments for individuals and small businesses. Due to Square’s technology, street salesman and individuals can now easily accept credit card payments. The San Francisco-based payments company has since expanded into developing its own cash register and financing program.
Financial tech companies, despite being small, appear to show a unique immunity from the competitive threat of large companies. This has been true for Intuit (NASDAQ:INTU) and PayPal (NASDAQ:PYPL) in past years. Now Square has fended off the likes of Amazon to succeed with online payments.
Since its IPO in 2015, SQ stock has risen nearly six-fold. This increase has taken the forward P/E to about 165, making it one of the most overvalued tech stocks trading today.
Wall Street expects the company to earn 45 cents per share this fiscal year. If this holds, earnings will grow 66.7% from the 27-cent per share earnings of last year. In future years, analysts expect average annual growth to come in at 54.8% per year over the next five years.
Despite the high growth, SQ stock remains priced for perfection. Yes, it can now serve larger businesses. And moving into lending will add to revenues. However, neither of these lines of business tend to draw high P/E ratios. Also, PayPal now competes in its core smartphone payments business. No reason exists that others cannot do the same. PayPal and Intuit currently support a forward P/E just above 30. Eventually, one can also expect the same for SQ stock.
Overvalued Tech Stocks to Sell: GoDaddy Inc. (GDDY)
Most people associate GoDaddy (NASDAQ:GDDY) more with Super Bowl commercials than with overvalued tech stocks — or domain names for that matter.
The domain name registrar that made its way in the public conscience through creative commercials. That strategy paid off. Despite the existence of countless domain registration sites or web designers, this no-moat business has managed to grow into a $12.6 billion company.
The stock has tripled in value since its IPO a little more than three years ago. However, that steady growth has taken GDDY stock to a forward P/E of almost 150. Profit growth grows by nearly double currently. However, the average annual growth rate is expected to fall to about 28%. While this compares well to most companies, its nothing that will support a P/E at nearly 150.
Moreover, the lack of a moat for GDDY cannot be overemphasized. GoDaddy competes aggressively on price and often offers compelling discounts. This does not change the fact that consumers can choose from multitudes of companies for this service. This is even more true for web design. Technology has advanced to the point that only more sophisticated websites require professional web designers. In this sense, most of us are potential peers of GDDY.
Perhaps its marketing will continue to help GoDaddy stand out above its competition. However, no matter how well the company stands out, no type of growth justifies its high multiple.
Overvalued Tech Stocks to Sell: Amazon.com, Inc. (AMZN)
Amazon (NASDAQ:AMZN) is one of the better-known overvalued tech stocks (or better known stocks, period). Thus far, however, I have personally been incorrect on AMZN as its march higher continues.
To be sure, Amazon has made and profited from visionary decisions. The vision began with the decision to sell books online in the mid-1990s. It has continued with initiatives such as Amazon Web Services (AWS) as cloud computing began to take off. Today, AWS drives the majority of its profits.
The forward P/E stands at about 110. Since analysts estimate a profit growth rate of 279.6% this year, investors may overlook the triple-digit P/E for now. However, over the next five years, the same analysts estimate average annual profit growth at 45.9%. Such a P/E appears difficult to justify at the slowing growth rate. Investors should also bear in mind that an economic slowdown could quickly bring down that estimate.
Moreover, valuations have taken AMZN’s market cap close to $920 billion, making it the world’s second-largest company. The world’s largest company, Apple (NASDAQ:AAPL), is expected to earn about seven times as much in net income this year.
I expect Amazon to remain a strong competitor in both retail and the cloud for decades to come. However, investors can earn high returns in other stocks with much less risk. Given this valuation, I would recommend staying away.
Overvalued Tech Stocks to Sell: Netflix, Inc. (NFLX)
Like many overvalued tech stocks, Netflix (NASDAQ:NFLX) has enjoyed years of visionary leadership. Other than a couple of strategic missteps in 2011, Netflix’s leadership has kept the company competitive and on the cutting edge of the streaming industry it pioneered.
Unfortunately, its success has attracted competitors, and these peers pose a threat to the company’s competitive moat. To its credit, the company began producing its own programming to keep customers subscribing to its service. Shows such as House of Cards (despite the scandal with Kevin Spacey), Stranger Things, and The Crown have bolstered the company’s moat.
However, the move by Disney (NYSE:DIS) to move their content from Netflix to their own streaming service will likely become their strongest challenge. While I doubt such a move would destroy Netflix, it could cause some to question the valuation on NFLX stock. The stock also took a hit on a revenue miss and on the news that Walmart (NYSE:WMT) will also offer a streaming service. Disney streaming is a much bigger threat could hurt the stock even more.
Despite that decline, the forward P/E still stands at about 115. Honestly, given the competitive choices and the mainstream acceptance of streaming, their own programming constitutes its entire moat.
In fairness, the company has succeeded internationally. As a result, analysts forecast an average growth rate of 62.35% per year over the next five years despite Disney’s plans to leave the platform. I expect Netflix to remain strong for years to come. But with all the alternatives and without a significant moat, I cannot justify paying 115 forward earnings for NFLX stock.
Overvalued Tech Stocks to Sell: ServiceNow Inc. (NOW)
ServiceNow (NYSE:NOW) provides software-as-a-service (SaaS) to enterprise customers to automate IT functions. They give both IT operations management and IT business management to companies. Customer service, HR and security serve as its primary functions.
ServiceNow became a publicly-traded company in 2012. NOW stock’s steady climb upward since that has given investors a more than 700% return. But it has also made NOW one of the most overvalued tech stocks.
If Wall Street predictions hold, NOW stock will earn $2.33 per share this year. This takes its forward P/E ratio to about 78. The company’s expected 95.8% growth rate in net income probably explains the higher P/E ratio. With 52.2% average annual growth expected over the next five years, it could stay high as long as the economy continues growing.
The fact that this is a young company supporting a $32.3 billion market cap indicates room for growth. The company also operates on a robust business model that should continue attracting new business for years to come.
The concerning part of ServiceNow hinges on the valuation of NOW stock. The market has priced this company for perfection. Continued belief in the stock will probably help it continue to climb steadily. However, a downturn could slow growth and with it, the catalyst for the current multiple on NOW stock. Like many overvalued tech stocks, one has to rely on the existence of a greater fool instead of fundamentals to profit.
As of this writing, Will Healy did not hold a position in any of the aforementioned stocks. You can follow Will on Twitter at @HealyWriting.