Wait for the Pullback Before Buying Nio Stock

The electric vehicle industry is on fire at the moment, trading at 52-week highs. Tesla (NASDAQ:TSLA) is leading the charge, but Chinese electric vehicle maker Nio‘s (NYSE:NIO) stock isn’t far behind.

Fasten Your Seatbelts, Nio Stock's Wild Ride Continues
Source: THINK A / Shutterstock.com

However, investors are asking the all-important question: is the rally over, and if so, should we wait for a pullback before committing cash to an EV maker? The answer to that question is, unfortunately, a yes. Shares in the space are overvalued, in my opinion, boosted by traders that don’t value long-term fundamentals.

Fossil fuels are at an all-time low, while U.S. vehicle demand is down considerably from the year-ago period. Nio does gain points in this category, China’s car market is recovering at a brisker pace than others, but it doesn’t justify the company’s stock rising almost 300% year-to-date.

Don’t get me wrong, I was very impressed by the second-quarter sales numbers, and Nio has excellent long term prospects. But with a stock price north of $14, I believe shareholders may be in for a rude awakening.

Strength in Numbers

First, let’s give Nio its due. The stock was dead and buried last year, trading at $1.19 in late 2019. When the novel coronavirus pandemic hit, many investors feared the worst. With transport banned or restricted, I expected shares to take a massive hammering.

However, contrary to this sentiment, the company has fared exceedingly well — too well by certain standards! Much of that has got to do with the general enthusiasm surrounding Tesla, which is now the biggest auto company by market capitalization at $275 billion. However, that still seems strange to me. Ford (NYSE:F) and Toyota (NYSE:TM), both of whom outsell the EV sector by a substantial margin, sit at market caps of $24 billion and $172 billion, respectively.

Still, if we hone in on Nio in particular, I don’t see the balance sheet strength to back the bull run it is experiencing. At the end of the latest quarter, the company sat at $350 million of cash, while debt stood at $1.56 billion. Much of this debt is convertible into equity, leading to dilution of existing shareholders.

But can you blame creditors? Nio stock is red hot at the moment, and many would love to cash in while they still can. I wonder if the company will take this opportunity to take on more debt since that seems to be the trend.

Before wrapping up here, Nio had an excellent second quarter, selling over 10,300 vehicles. The company has yet to launch its third brand EC6, so the numbers do tell us that it will be a good year for Nio. No mean feat, considering the Covid-19 situation.

However, just to put things in perspective, Ford sold 433,869 in Q2, leaving me perplexed, once again, regarding its valuation in comparison to Nio.

Is NIO Stock Trading Too Hot?

When you look at the fundamentals, there’s just no way to justify NIO stock trading at these high multiples. That’s not to say I am bearish on the stock since I believe the stock can climb some more before making it back to earth eventually.

Please remember, this is a company that hasn’t generated positive earnings per share figures thus far, so the Tesla of China has to do a lot to back the momentum its share price is experiencing. There is money to be made from trading the stock, but the long-term fundamentals just aren’t there to justify a buy decision.

Final Word

Nio stock trades at an enterprise value-to-sales ratio of 17.78x, a 1,374.25% premium to the sector median. Analysts don’t expect the company to become profitable anytime soon, although revenues will rise.

The current bull run has more to do with momentum trading than actual fundamentals. For a nascent company, it has an awful lot of debt on its books and doesn’t have a diversified product line.

Considering all this, I believe it is only a matter of time before we see valuations normalize. That’s why I’d suggest waiting for a more attractive entry point before adding more Nio stock to your portfolio.

Faizan Farooque is a contributing author for InvestorPlace.com and numerous other financial sites. He has several years of experience in analyzing the stock market and was a former data journalist at S&P Global Market Intelligence. His passion is to help the average investor make more informed decisions regarding their portfolio. He does not directly own the securities mentioned above.

Article printed from InvestorPlace Media, https://investorplace.com/2020/07/wait-for-the-pullback-before-buying-nio-stock/.

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