Wait for a Correction In Tech Before Buying Snowflake Stock

A winner right out of the gate, recent IPO Snowflake (NYSE:SNOW) more than doubled on its first day of trading. And, despite a big pullback in the days that followed, shares have bounced back. But, does that mean shares are heading even higher? Or, as we reach the late stages of the runaway “tech bubble,” is this stock topping out just a few weeks after its debut?

Snowflake IPO on the NYSE

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It depends. On one hand, you can argue this provider of cloud data services is the right company, at the right time. As cloud data usage accelerates, Snowflake could “crush it” in this space. Much like another relatively young company, Shopify (NYSE:SHOP), did in e-commerce.

On the other hand, while its clear names like Shopify have a tremendous moat in their niche of the tech economy, can the same be said about Snowflake? When your rivals include the likes of Amazon (NASDAQ:AMZN) and Microsoft (NASDAQ:MSFT), it’s tough to dismiss the risk of competition.

That being said, what if a buy, sell, or hold decision on Snowflake hinges more on the market than the company’s underlying business? That is to say, it’ll be tough for this stock to tread water, much less head higher, if tech stocks overall begin to tumble.

And, as we could see a correction, or even a crash, in the coming twelve months, why dive into this name now, when a better entry point could be just around the corner?

What’s Next for SNOW Stock?

Is it fundamentals or investor mania that’s behind Snowflake’s epic run? I’m going with the latter. Sure, with its strong growth prospects, and exposure to one of the key megatrends of this decade (cloud computing), there’s not much reason to be bearish.

Yet, thanks to speculators looking for the next big tech winner, its valuation has taken a backseat. It has fallen out of the trunk, to be more precise.

It may be cliche to use the phrase “priced to perfection.” But, “priced to perfection” aptly describes Snowflake right now. Shares trade for 126.7 times estimated Fiscal 2021 (ending Jan 2021) sales. Granted, with high projected growth, today’s valuation is a mere 66.7x next fiscal year’s sales. But, even among the big tech “story stocks,” that’s a massive valuation premium.

With this in mind, it’s no surprise why one analyst has taken a bearish view on this hot stock. Summit Insights’ Srini Nandury initiated coverage Sept. 21. The analyst gave shares a “sell” rating, and a price target of $175 per share. Nandury believes “[valuation] compression is inevitable.”

How so? Not only does Snowflake trade at a rich premium to other hot tech stocks, like Shopify and Zoom (NASDAQ:ZM). With not just Amazon and Microsoft as competitive threats, but names like IBM (NYSE:IBM) and Oracle (NYSE:ORCL) as well, this cloud provider may have little competitive advantage over its larger rivals. And, without an economic moat, it’ll be hard for shares to maintain their current price-to-sales multiple.

Sure, as seen from this commentator’s analysis, one can argue that shares are reasonably priced at today’s valuation (around $259 per share). Yet, as I said above, it’s the near-term direction of the market, not fundamentals, that will make (or break) the stock.

Why Tech Stock Euphoria Could Turn on A Dime

Investors basing their decisions on valuation have either lost big, or missed out, in 2020’s unique market environment. With the novel coronavirus pandemic producing an odd combination of a tech bubble on one hand and slow recovery for “old economy” stocks on the other, it has been hard for those not buying based on momentum or FOMO.

Yes, you can’t call a top. But, what if the music’s just about to stop for tech stocks? Pandemic tailwinds and extremely low interest rates could continue to help justify additional bidding up of tech stocks.

But, even after the tech stock correction earlier this month, more selling could be on the horizon. Tech stock valuations more than reflect “new normal” windfalls. Retail investors on apps like Robinhood may start to sell en-masse, as they either take profit, or sell in fear of further declines.

To top it all off, this November’s contentious U.S. Presidential election could cause short-term volatility as well. Does now seem like the right time to buy a stock trading for well over 100 times sales?

Snowflake Is a Long-Term Winner

As cloud-based data storage gains critical mass, names like SNOW stand to win big. Even as it competes with the biggest tech names out there for market share.

Yet, the bull (or bear) case for this recent IPO is less about underlying fundamentals, and more about where the market’s going. With the high risk markets reverse after their pandemic rebound, it’s best to “wait and see” with Snowflake.

On the date of publication, Thomas Niel did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.

Thomas Niel, contributor to InvestorPlace, has written single stock analysis since 2016.

Article printed from InvestorPlace Media, https://investorplace.com/2020/10/wait-for-a-correction-in-tech-before-buying-snow-stock-cseo/.

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