At-home connected fitness company Peloton (NASDAQ:PTON) has turned into one of Wall Street’s favorite stocks to buy amid the novel coronavirus pandemic. This investor favoritism has led PTON stock to essentially double over the past month alone.

The logic ostensibly makes sense.

The at-home fitness trend — which was already fairly strong before Covid-19 — is now gaining significant traction amid widespread gym and park closures, and “stay-at-home” orders. Peloton offers a best-in-breed, premium at-home fitness platform. Demand for this platform has presumably skyrocketed over the past month. And because Peloton is a subscription-based platform, this near-term demand surge creates long-term revenue and profit tailwinds.

Overall, the coronavirus pandemic has provided a huge boost to Peloton’s business. On the surface, then, the meteoric rise in PTON stock makes sense.

Upon closer inspection, however, it doesn’t. Simply consider the five following points:

1. The near-term demand surge may not be as big as investors seem to believe. Search interest, web traffic and app download data all imply that, while Peloton has received a demand boost amid the coronavirus pandemic, this demand boost wasn’t that big, and it’s fading quickly.
2. At-home fitness products — especially expensive and bulky ones like the products Peloton sells — will forever remain a niche market. When you break it down, there are simply too many sub-categories of gym-goers, fitness enthusiasts and athletes who have no need for or interest in expensive, bulky at-home bikes.
3. Competition in the at-home fitness market is heating up. Amid the coronavirus pandemic, at-home fitness equipment and class suppliers of all shapes and sizes have “stepped up their game”, creating sizable competition headwinds for Peloton.
4. Margin potential may be overstated. Looking out longer-term, intense competition could dilute Peloton’s long-term margin expansion potential.
5. Peloton stock is valued for perfection. Even in a realistic “everything goes right scenario”, my modeling pegs a fair 2020 price target for PTON stock at less than $30.

Not a Huge Demand Surge

There’s no arguing that Peloton has seen a surge in demand for its at-home fitness bikes amid the pandemic. Look no further than the long delivery delays on Peloton’s website for proof of such.

Nonetheless, other data points suggest that this demand surge is being slightly over-hyped.

According to Google Trends, search interest volume related to Peloton did rise in March and April. But it rose to levels far below December search interest levels. Search interest volume has also slightly fallen since mid-March.

Additionally, according to Similar Web, web traffic to onepeloton.com did bounce higher in March. Again, though, it rose to levels below what the website saw during the holiday period.

Also, Peloton’s app download volume surged in mid-March according to App Annie. But Peloton was still only the fifth most downloaded health and fitness app in the Apple App Store in mid-March. Since then, app download volume has steadily decreased. Today, Peloton’s app ranks as the twentieth most downloaded health and fitness app.

Overall, then, while the data suggests that Peloton demand is increasing, it’s increasing at a rate which is underwhelming relative to the rise in PTON stock price.

Niche Market

When you break down fitness demand into sub-categories, it becomes obvious that Peloton’s at-home fitness addressable market is incredibly niche.

Body-builder types don’t have a need for an at-home fitness bike, let alone an expensive one. Nor do individuals whose workout routines center primarily around strength building and weights exercises.

Lower-income individuals can’t afford a $2,000-plus bike, on top of a $40 per month fee for fitness classes. By the same token, individuals with small living spaces can’t physically fit a huge Peloton bike into their home.

You also have to like workout classes in order to be willing to pay thousands of dollars for a Peloton machine and the classes. A lot of workout enthusiasts don’t like classes, and also don’t like bike workouts enough to pay big money for a bike-only workout platform. Many people simply like the social experience of going to the gym too much to buy a Peloton.

In other words, while the market for working out is huge, the market of potential Peloton buyers is incredibly small. You’re talking about upper-income households, with big enough homes, who don’t rely heavily on strength workouts, who enjoy workout classes and who are willing to commit big money to a platform which allows for only bike workouts.

That said, it should be no surprise that only about 15% of the gym members in Peloton’s current markets are interested in Peloton products.

Tons of Competition

Not only is the at-home fitness market incredibly niche, but it’s also incredibly crowded.

On the low-end, pretty much every gym out there has rolled out some form of virtual workout classes during the pandemic, through either their own app or on YouTube. Those videos join a series of at-home workout videos that are already on the internet — posted by influencers and workout enthusiasts — which garners hundreds of thousands of views.

Most of these videos are free, and the ones that do cost money don’t cost $2,000. They are equipment-light, and sometimes equipment-free. They are also short, flexible, and easy-to-follow.

Meanwhile, on the premium end, Peloton has competition from the likes Nautilus (NYSE:NLS) and Echelon. The former sells a broader array of at-home fitness equipment, attracting the strength-focused types. The latter sells a very similar at-home connected fitness bike as Peloton — just at a fraction of the cost.

Collectively, Peloton is one of many players in a very crowded, very small at-home fitness market. That doesn’t mean Peloton won’t grow. The company offers the best-in-breed, premium at-home connected fitness solutions, and will leverage that positioning to keep growing. But, it does mean that Peloton’s growth potential is clouded with significant competitive risks.

Overstated Margin Potential

A lot of bulls are very excited about Peloton’s long-term margin expansion opportunity.

That is, Peloton is a hardware and a software company. The hardware component is low margin, while the software component is high margin. As Peloton onboards more customers over the next several years, the software business will become a bigger contributor to overall revenues, driving significant gross margin expansion across the whole business.

But… that gross margin expansion may be offset by limited operating leverage.

Because Peloton’s addressable market is so small — and because there are multiple players in that market — the company is going to have to spend an arm and a leg on marketing, product development and advertising to sustain customer growth and reduce customer churn. In turn, such big operating expense spend will limit how the company benefits from economies of scale. In plain English, that means that Peloton’s expense rate may not drop as rapidly as many hope it will.

This lack of expense rate compression will offset gross margin expansion, and ultimately dilute Peloton’s long-term margin expansion potential.

Overvalued Peloton Stock

Having said all that, Peloton is still a growth company. The company has good revenue and profit growth prospects over the next few years as the at-home fitness market gains momentum, and as Peloton leverages its premium-end leadership in that market to significantly expand its customer base.

The problem, though, is that PTON stock is already priced for all of that… and then some.

My long-term model on Peloton makes some aggressive assumptions. Approximately 2,700% subscriber growth to 14 million subs by 2030, and more than 1,000% revenue growth to over $10 billion in revenues by then. About 20 points of gross margin expansion to over 60%, and roughly 20% adjusted operating profit margins by then, too.

However, under those aggressive assumptions, my model suggests that Peloton will do “just” $4 in earnings per share by 2030. So based on a 16-times forward earnings multiple and a 10% annual discount rate, that implies a 2020 price target for PTON stock of less than $30.

Bottom Line on PTON Stock

Peloton is a growth company, with good long-term growth prospects. But, at present, PTON stock is being valued as if Peloton is a great company, with great long-term growth prospects.

This discrepancy is a byproduct of the coronavirus pandemic. And once the pandemic passes, I expect this discrepancy to fade, too. When it does, PTON stock will likely drop below $30.