Investors have bought the dip again. The three major equity indices all gained at least 1.4% on Tuesday, with the tech-heavy NASDAQ Composite climbing over 2%. After coronavirus fears rocked the market last week, a return to all-time highs is less than two percentage points away.
Hopes are rising that the virus will be contained, and that might be enough for the rally in stocks to continue. Earnings season has impressed so far. Interest rates remain favorable. The domestic economy is solid, if not quite spectacular.
To be sure, valuation remains a concern. As Wednesday’s three big stock charts show, that concern extends beyond the highest-growth, most dearly-valued names in the market. For varying reasons, these stocks have both technical and fundamental worries. But a strengthening broad market could fix those problems.
Ulta Beauty (ULTA)
As a retail growth stock, Ulta Beauty (NASDAQ:ULTA) has been an outlier for several years now. Lululemon Athletica (NASDAQ:LULU) has been essentially the sector’s only star performer; ULTA stock joined LULU before the bottom fell out last year.
But ULTA has rallied since late November, and the first of Wednesday’s big stock charts suggests the rally could, and should, continue:
- After forming a multiple bottom, ULTA stock gapped up following a strong fiscal third quarter report in early December. The recent consolidation after a another rally last month sets up a flag pattern, a continuation pattern which usually suggests more upside ahead. The fourth quarter release in mid-March could be an upside catalyst.
- Fundamentally, ULTA isn’t terribly expensive by market standards, at nearly 23x this year’s consensus earnings per share estimate. But by brick-and-mortar retail standards, that’s a steep valuation: Five Below (NASDAQ:FIVE) might be the only other mid-cap specialty retailer with a higher multiple.
- Earnings likely will have a big impact on near-term trading, but so will market sentiment. Retail largely has been a sector that investors have shunned for most of the past few years, and with good reason. As long as investor preferences lean toward higher-growth tech stocks, ULTA may struggle to see its multiple expand much further. If investors start questioning valuations at the top of the market, however, funds may flow into ULTA.
Rollins (NYSE:ROL), owner of pest control company Orkin, has been one of the more quietly interesting stocks of this bull market. ROL stock has been assigned seemingly preposterous valuations, with investors paying over 50x earnings for a business whose profits historically have grown at a single-digit rate.
Like WD-40 (NASDAQ:WDFC), Rollins has been an unquestionably high-quality company with a long-questionable stock price. Valuation seemed to catch up with ROL last year, but as the second of our big stock charts shows, investors are paying up once again:
- ROL is backing to challenging resistance at $39 and seems to have a path to break through. The 50-day moving average should turn north relatively quickly, setting up a potential “golden cross” as it moves above the 200DMA. Volume in the YTD rally has been solid. Modestly higher lows in December relative to August set up a modestly increasing triangle. ROL may not be set for a breakout immediately, but it’s gathering steam to at least return above $40.
- Once again, however, fundamental concerns dominate. ROL now trades at 54x adjusted EPS for 2019 — after growth of less than 1% last year. Fourth quarter earnings reported last week actually narrowly missed consensus, and yet ROL rose steadily even in a nervous market.
Admittedly, ROL has stalled out in recent years, as valuation worries finally offset optimism toward the defensive business model and merger and acquisitions opportunities. But it’s simply difficult to make any real fundamental case for Rollins stock at this point. And it’s fair to wonder what happens to the stock price if and when investor sentiment turns south for a sustained period of time.
American Campus Communities (ACC)
Meanwhile, value stocks like American Campus Communities (NYSE:ACC) continue to be left out of the market rally. The college housing real estate investment trust would seem like a no-brainer investment, given enrollment growth and demand for better accommodations.
Yet shares are flat to 2012 highs, and ACC stock has faded again, leaving hopes that support will hold once again:
- It’s not guaranteed that support will hold. A head-and-shoulders pattern still leaves some potential downside. The stock touched a 10-month low early last month, and the recent pullback establishes a bearish descending triangle pattern. Support may hold, and ACC could rally if it can post a reversal, but right now the chart leans bearish.
- The fundamentals admittedly look more attractive. Based on 2019 guidance, ACC trades at about 19x FFOM (funds from operations-modified; FFO is a common measurement of REIT profits). A dividend yield above 4% is more than double that of the 10-year Treasury.
- In this market, however, investors have been better served focusing on price action over the fundamentals. For years now, ACC hasn’t been much different. A flight to safety perhaps could lead the REIT to outperform. In the market at the moment, however, it’s difficult to get too excited.
As of this writing, Vince Martin has no positions in any securities mentioned.