Earlier this week, the level of optimism in high-tech stocks rose above my comfort zone. The buyers went nuts over momentum stocks and almost all of them follow the same thesis: Covid-19 stocks are a must buy because they benefit from the quarantine. The worst of the glut happened in the tech sector, so the Nasdaq became the frothiest. Today I would like to point out stocks to avoid chasing into this madness.
It is important to note that this is not the same as advocating shorting them — those are two different notions.
Another important nuance is that I do not dispute the long-term bullish thesis in any of them. These stocks are eventually going to be worth buying again — just not here and now.
The strong rally into the Tuesday high left the markets vulnerable, and they quickly paid the price. Since that peak, the bears have done well. The S&P 500 fell 5% and the small caps are down over 9%. This alone is not a big deal, but the fact that we are still so high with so much uncertainty is concerning. Don’t take my word for it because the CBOE Volatility Index (VIX) is still twice as high as its historical average.
Before you hurl rocks at me for suggesting a pullback, let me set the stage for my perspective. I am by no means a perma-bear. In fact, I wrote about staying long through the tariff wars when consensus told you to sell. But this is different. The world is out of work except for a few companies that are getting huge user growth because of the quarantine. The burst is temporary and the mania will fade.
Here are the three stocks I’m focused on:
Let me make my case as to why the rallies are long in the tooth, and these are three stocks to avoid at these altitudes.
Stocks to Avoid: Netflix (NFLX)
I’ll start with the one that would bring me the most hate, and that’s Netflix.
I love the fact that Netflix made me realize that I was consuming my media all wrong. I have cut the cord because of it. They were the innovator, and so they have the first-mover advantage. While many formidable competitors are nipping at their heels, I think there is plenty of room for all of them to thrive. The popularity of the new service from Disney (NYSE:DIS) proves the concept, so in essence that actually helps Netflix continue its success.
I have nothing against the company. My concern today is with the technical aspect of NFLX stock.
I like their long-term prospects because management seems like they are making the right moves. Analysts at Jefferies clearly agree, initiating the stock at a “buy” with a $520 target. But there are reasons to wait out the rally if you’re not long already. The candle from the day of earnings is concerning. The spike immediately reverted to losses. In addition, there are a few candles before and after it that show a lot of investor indecision (see chart). I would rather wait to buy new positions until they make their mind up. There is the potential that the highs from April 16 and Wednesday turn out to be an interim double top. Often stocks need a dip to build better momentum to break through difficult lines.
Moreover, there are harmonic patterns that suggest a $50 pullback is likely. Even then, it is normal for a stock in breakout to revisit its neckline area, so I would buy the dip when it happens. I traded the breakout from $380 and it’s only fair I look to trade the retest of it. However, I am not a stubborn bear because I would conversely chase the breakout from those two top candles. If that happens, NFLX stock could break through $500 in weeks.
See? I told you it’s not that bad.
Beyond Meat (BYND)
A close second favorite among mega-fans is Beyond Meat. The consensus is that this company is saving the world one animal at a time. While I don’t mind eating meat, I am 100% supportive the concept of consuming alternatives to it. I respect the health argument for it, and the environmental as well as the animal abuse reasons. My problem is only with the current BYND stock ramp. So just like Netflix, I am merely suggesting to wait out this huge FOMO trade until more appropriate entry levels.
BYND stock has had a short squeezes before, but this is different. The rally is fueled by buyers chasing the Covid-19 headlines. The one making the rounds is that there is a shortage of beef and this is an opportunity for Beyond Meat.
I completely disagree with this concept because the meat departments everywhere I shop are packed. The shortage lasted but a few days and I saw people buying shrimp and crab before they would even consider buying alt meats. Even if it was a window, it is closed.
Another line of thinking suggested that beef factory closures were the opportunity. To that I would suggest that if people can’t operate the beef factories then they wouldn’t operate any other ones either. Beyond Meat doesn’t have special permission to open its production while others are closed.
Regardless, we can nit pick it to death so let’s just say it is a thin thesis at best and it has a short lifespan. The U.S. is in the process of reopening the nation so that argument will soon evaporate.
Beyond Meat is like Netflix because it has the first-mover and brand advantage, even if it’s not the only provider. They also made headlines partnering with mega retailers like Starbucks (NASDAQ:SBUX), so management is competent. On the chart I point out the best places to buy the dips when they come. Meanwhile, BYND stock is headed into a big resistance zone and the bulls will need more than one try to breach it.
Zoom Video (ZM)
Let me start by expressing my gratitude for the service that the company provides. My family and friends lives are better through this crisis because of it. “Zoom” is fast becoming a generic verb for meeting online like “Google” is to web search. People of all ages use it on a weekly basis. Some of these habits will extend past the quarantine and that is upside potential for the company.
My problem is that the ZM stock has priced in the positive impact too quickly. It needs a dip to establish a better base.
The virus crisis shoved hundreds of millions of users down the throat of Zoom Video. They reported a huge influx of new accounts, and for the long term this can great. But short term, this has downsides and buyers near the top are ignoring them.
The new users are mostly free, so they are a fast boost to metrics but a mid-term burden on the company resources. It costs the company big money to support this new elevated usage level. There will likely be an adjustment period that leaves the ZM stock precariously perched going into the next earnings season. The timeline works against it further if we continue to open up states without any setbacks. The more people we un-jail, the less focus there will be on the meme of Covid-19 stocks to buy.
The strongest base of consolidation is set around $115 per share plus-or-minus $5. I can also argue for an interim support level near $142. Instead of piling in long into ZM stock near the all time high, it’s more prudent to buy it on the dip. I would consider it at $142 else I’d ideally wait for the better footing $25 below that. If this sounds shockingly low to you, then consider that it was under $133 on May 1. Three months ago Zoom was under $80. When stocks rally with such hoopla it is only human that we get tunnel vision and we tend to make mistakes.
Shorting stocks is dangerous on any normal day because it opens the investors to unlimited losses. Add to it that these are momentum stocks that move much faster than most others and you get an extremely hazardous bet. My message is simple today that patience is the best course of action. Chasing the quick buck here could leave you holding the proverbial bag. The 5% drop over the last two days helps relieve this pent up tension but it’s not enough.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities. Join his live chat room for free here.
