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Recent Drop Leaves Shopify Stock Well Within Bubble Territory

Whatever direction SHOP stock goes next, it will offer more risk than reward

Shopify (NYSE:SHOP) stock has finally begun trending down. This is not to say the shares have had a bad year. Even with a drop of more than 27%, SHOP stock value has still increase more than 120% since the beginning of the year.

Recent Drop Leaves Shopify Stock Well Within Bubble Territory
Source: Jirapong Manustrong / Shutterstock.com

However, given the elevated multiple that SHOP stock currently maintains, traders now have to wonder if this marks the beginning of a prolonged bear market for Shopify stock. Whatever direction SHOP goes next, it will offer more risk than reward at current levels no matter how well its underlying industry performs.

SHOP Remains a Bubble

About a month ago, I declared SHOP stock a “bubble.” My InvestorPlace colleague David Moadel last week took it a step further, challenging the contrarian credentials of traders by almost daring them to sell Shopify stock.

Wall Street shows signs of gradually reaching the conclusion that both me and others have made. SHOP traded at around $325 per share at that point in mid-October. Nearly a month later, Shopify stock was down almost 11%, trading near the $290 per share level before Friday’s big bounce.

Still, valuations remain elevated. The 27% drop from the $409.61 per share record high leaves the forward price-to-earnings (PE) ratio at 316 times forward earnings. To put that into perspective, Amazon (NASDAQ:AMZN), the pioneer in e-commerce, trades at more than 65 times forward earnings.

Wall Street predicts average annual profit growth over the next five years for SHOP of 57.41%. That deserves a premium, but not one that tops 300x forward earnings.

Given the prominence of Amazon in e-commerce, investors have sought the most-prominent challenger. While that question has no definitive answer, Shopify has provided the most-impressive vehicle for the little guy to mount that challenge. However, small businesses can also turn to platforms such as WooCommerce and Adobe’s (NASDAQ:ADBE) Magento on which to run e-commerce sites.

Investors should also note issues in the charts. SHOP stock broke through the 50-day moving average in mid-September. Since that time, the SHOP stock price has fallen back whenever it has begun to approach that level. Now, it has started to fall toward the 200-day moving average. That level has held for now. Still, should it break through, it would show yet another sign that the bubble continues to pop.

Shopify vs. Shopify Stock

This does not mean Shopify itself will suffer. The company itself continues to show signs of innovation that may help it stand out from competing e-commerce platforms. Also, the growth will continue for years to come. Analysts projected just over $3.53 trillion in e-commerce sales for 2019. By 2023, they believe that will rise to more than $6.54 trillion. Shopify’s growth will remain robust for the foreseeable future.

However, looking at the price of SHOP stock, it appears to have already priced in all of that growth. Virtually every other alternative trades at bargain prices by comparison, including Amazon. Although investing in Adobe is neither a cheap nor a pure-play alternative, it looks like one of the more reasonably priced e-commerce stocks at a 29.9x forward PE ratio.

Put simply, the bubble may not be popping, but it is leaking air. However, it has a long way to fall before it drops to a level where it becomes a reasonable investment.

Final Thoughts on SHOP Stock

SHOP stock may have begun a long decline even as its industry remains in an initial growth stage. Shopify should continue a trajectory of double-digit growth as a company. However, this led to a massive run-up in the shares that fundamentals did not justify. While it has lost more than one-fourth of its value from the peak, Shopify stock still sells for more than 300 times forward earnings.

Given the volatile nature of SHOP stock, I cannot rule out a recovery in the stock price. However, at current levels, the shares offer more risk than potential reward. Investors have every reason to stay bullish on the future of Shopify. However, the stock still reflects that potential many times over. Those determined to buy an e-commerce platform stock should instead look to Amazon or Adobe.

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.


Article printed from InvestorPlace Media, https://investorplace.com/2019/11/drop-shop-stock-bubble-territory/.

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