Widely perceived as the Amazon (NASDAQ:AMZN) of Latin America, MercadoLibre (NASDAQ:MELI) has caught fire amid the novel coronavirus pandemic, with MELI stock jumping from a low of $420 in March 2020, to a high of $886 in June.
Obviously, this huge rally in MELI stock can be attributed to the fact that, because of Covid-19, consumers across Latin America are migrating more quickly than ever to online shopping channels. That’s largely why MercadoLibre reported record-high 70%+ sales volume and items sold growth in April 2020.
But, the Covid-19 pandemic, and related consumer hysteria, are starting to fade. The physical economy is starting to reopen. And those huge e-commerce tailwinds that existed in April and May, will start to moderate.
As they do, this red-hot rally in MELI stock may start to show signs of easing.
Yes, in the long haul, MercadoLibre is supported by a promising growth narrative. But, at current levels, the stock is both overvalued and overbought, and is only supported so long as robust Covid-19 tailwinds remain. Once those tailwinds fade, so will the premium valuation and excess hype in MELI stock.
As such, beware of MercadoLibre stock at current levels. Valuation risks are high. And the company’s biggest macro-driver is slowing.
MercadoLibre Is a Long-Term Winner
MercadoLibre has created an unparalleled online commerce ecosystem throughout Latin America, with a specific focus on Brazil, Argentina and Mexico.
That online commerce ecosystem has two parts: an e-commerce platform that acts and looks a lot like Amazon.com, and a payments platform that acts and looks a lot like PayPal (NASDAQ:PYPL).
Both of those platforms are dominant in Latin America. In 2019, Mercado’s e-commerce platform accounted for 20% of all Latin American e-retail sales. Meanwhile, Mercado Pago, the payments platform, has a gross payment volume that is more than twice as big the e-commerce platform’s gross merchandise volume.
Accordingly, MercadoLibre is a dominant pure-play on the Latin American digital commerce revolution. E-commerce penetration rates across Latin America measure just 4.2%, versus 10.7% in the U.S. As technological advancements, like smartphones, continue to proliferate throughout Brazil, Argentina and Mexico, Latin America’s e-commerce penetration rates will soar, in a retail sales market that will sustain 5% annual growth thanks to population growth, job growth and urbanization.
Add all that up, and it’s easy to see how MercadoLibre will sustain 20%+ revenue growth for a lot longer. On top of 50% gross margins, that big revenue growth will allow for enough positive operating leverage to drive even bigger profit growth.
In the long term, that big profit growth will guide MELI stock higher.
There Are Huge Near-Term Valuation Risks
Although MercadoLibre is a long-term winner, MELI stock has significant valuation risks in the near term.
Specifically, the stock is both overvalued and overbought at current levels, and due for a pullback once the macro tide turns. Just consider (all data from YCharts):
- Amazon has a price-sales ratio of 4.5. Alibaba (NASDAQ:BABA) and JD.com (NYSE:JD), the two companies which are often referred to as the Amazons of Asia, have price-sales ratios of 8 and 1, respectively, and Amazon has a high-margin cloud business. Jumia (NYSE:JMIA), sometimes labeled the Amazon of Africa, has a P/S of 3. MercadoLibre, by comparison, has a lofty P/S of 17.
- Today’s sales multiple on MELI stock is as high as it’s ever been. The only other time the valuation got close to this level was August 2019. MELI stock fell 30% over the following three months.
- Consensus 2023 earnings estimates sit around $18 per share, meaning MELI stock is trading at more than 40 times earnings – that are three years out.
- MELI stock is more than 40% above its 200-day moving average, which is close to rivaling as far above the 200-day moving average this stock has been ever. Typically, whenever the stock gets this extended, it falls flat for a few months.
These risks wouldn’t be a problem if the company were going to fire on all cylinders for the foreseeable future. After all, growth stocks with a ton of momentum often tend to defy gravity.
But MercadoLibre isn’t going to fire on all cylinders for much longer. It increasingly appears that the worst of the economic impact of the Covid-19 crisis is over, and that physical shopping channels will reopen over the next few months. As they do, MercadoLibre’s elevated April sales growth rate will moderate, which will weigh on the stock’s premium valuation.
Bottom Line on MELI Stock
MercadoLibre is a long-term winner staring at significant near-term risks.
The investment implication, then, is simple. Fade this rally as the global stay-at-home trade unwinds. Let the stock cool off. Then, once the premium valuation and excess hype is gone, buy the dip, and let secular tailwinds carry this stock higher over the next few years.
Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been recognized as one of the best stock pickers in the world by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he was long AMZN and JD.