As we move toward the end of the year, the calls for a tech correction are growing. Tech stocks are proven performers, leading investors to record gains in the last decade.
However, notable investment analysts such as Leuthold Group’s Jim Paulsen say that a 10% to 15% correction is around the corner. Morgan Stanley has issued similar statements recently, believing the markets are overheated.
No one can predict when this will happen. Consequently, value investors need to do their homework and get ready to buy tech stocks once the correction occurs.
Ever since the coronavirus pandemic hit last year, tech stocks have done very well. Many have seen triple-digit growth, putting them firmly in the overvalued category. That doesn’t mean they are not inherently good businesses. It’s just that their shares are trading at astronomical price multiples and need to cool down before they can become viable investments again.
If 2020 taught us it is impossible to exist in a world without the interconnectivity provided by tech giants, then this year has shown the “reopening trade” is also worth billions. Hence, a broader tech selloff is not out of the question as people look toward safer, more conventional investments.
Read on and get to know these seven tech stocks that are overvalued, but prime candidates for your portfolio if their price falls:
- Snowflake (NYSE:SNOW)
- Netflix (NASDAQ:NFLX)
- Xero (OTCMKTS:XROLF)
- Airbnb (NASDAQ:ABNB)
- Cisco (NASDAQ:CSCO)
- Digital Realty Trust (NYSE:DLR)
- Tesla (NASDAQ:TSLA)
Tech Stocks: Snowflake (SNOW)
Last September, Snowflake’s cloud-based software company went public at $120 per share. It raised a jaw-dropping $3 billion in one of the biggest initial public offerings (IPOs) in history.
Snowflake’s platform breaks down a company’s “data silos” and puts that information onto a central cloud-based platform for easy analysis. The new system makes it easier than ever before to extract insights from data stored across different platforms and make smarter decisions about growth opportunities.
By now, it’s well-known that data is the most valuable commodity in the world. Consequently, companies like Snowflake are guiding us into the future — and making a fair bit of money along the way for themselves and their shareholders.
The company’s annual revenue rose 120% year-over-year (YOY) in fiscal 2021. On a quarterly basis, it grew another 110% YOY to $334.4 million in its most-recent quarter. These numbers make it one of the fastest-growing tech companies on Wall Street. The net retention rate for the company’s existing customers has increased to 173%.
The company’s net loss widened to $546 million in the first nine months of fiscal 2021. Wall Street expects that Snowflake will remain unprofitable for some time, largely due to high operational costs and competition within its industry.
Nevertheless, the high retention rate and asset-light operating model are great reasons to invest in SNOW stock. You need to wait for the right moment to take the dip, though.
Netflix has grown its business and created new services with boldness. The company is constantly changing based on what customers want and when they need it most.
In short: Netflix knows best. And with people staying indoors while businesses were closed due to the pandemic, the company did well last year.
Netflix’s annual revenue has grown nearly every year for more than 10 years, coming close to $25 billion in 2020 — a 24% YOY increase. Annual net income was $2.76 billion, a 47.91% increase from the year-ago period.
However, with many viewers returning to pre-pandemic activities outside the home, many analysts expected the streaming giant to stumble. But so far, that has not been the case. This year, South Korean drama Squid Game became Netflix’s biggest-ever hit. Bloomberg reported the show is worth almost $900 million per the streaming giant’s estimates.
Netflix continues to grow at a rapid pace. The company now has 222 million customers, with about 67 million in the U.S. — a new record for the streaming service. Netflix recorded $7.5 billion in revenue and $1.4 billion in profit in its recent earnings report. It beat analyst expectations and restored investors’ trust in the company.
However, this excitement has led to a huge runup in the stock price. Investors value NFLX stock, which will not change as we round out the year. Several popular shows on the platform, like You, Cobra Kai and The Crown, will release a new season within the next year to great fanfare.
Additionally, production schedules are now getting back to normal. That means no delays in terms of releases for 2022. That is good news for both the streaming company’s investors and viewers.
Tech Stocks: XERO (XROLF)
Small business owners are constantly looking for a way to streamline their day-to-day operations. Xero is one of the go-to options on the market. It provides small businesses with all they need in accounting and financial management software at an affordable price point.
A handful of players dominate small businesses’ traditional bookkeeping and accountancy software market. The introduction of the digital transformation has made things more interesting, though. The market for enterprise software is steadily growing as more companies enter the industry and offer their solutions.
However, it’s not just about which products are better; pricing plays an important role. Several companies like Odoo and ZipBooks are offering free and open-source products.
Xero’s biggest competitor is Intuit (NASDAQ:INTU), a global software giant that has been around since 1983. It’s the undisputed market leader with its QuickBooks product, which was launched back then and continues to be one of America’s most popular financial management programs today. Intuit has a market share of almost 80%. It arguably had the first-mover advantage and has developed a large, loyal user base as a result.
Xero has been a strong player in the cloud accounting market for over ten years, and it seems to be slowing down. Plus, as laid out, the competition is sharp in the industry. The stock price needs to reflect this, which is not the case now. After the price falls, investors could find value in XROLF stock.
Airbnb’s business suffered a major blow as the pandemic spread. People worldwide were less interested in traveling for fear of contracting Covid-19 through transportation networks.
The company is bouncing back after the pandemic and it is arguably stronger than before. However, its stock price has continued to remain overvalued regardless of the state of its operations. At the time of writing, shares are trading at 138.9 times forward price-to-earnings.
Airbnb reported revenue of $2.2 billion in the third quarter, a 36% increase compared to 2019 when the coronavirus pandemic went into effect.
Much of the credit of its current success has to go to the company’s proactive approach in response to the virus. When Airbnb was hit hard by the pandemic, management did not accept defeat. They improved cost structures through reduced marketing expenses while eliminating any unnecessary fixed costs to improve profitability.
When revenue rebounded above pre-pandemic levels, it was in an excellent position to prosper. Airbnb reported an impressive net income of $834 million in Q3 compared to just $267 million at the same time last year.
Profit growth is so robust that trailing 12-month free cash flow has increased more than three times during this period. This proves ABNB stock is a strong long-term investment for people who want their money to work hard for them.
Airbnb has long been the go-to platform for travelers looking to book affordable accommodations near them, with many properties and options to choose from. That kind of value proposition will result in a high level of loyalty. However, much like the other major tech stocks out there, it is trading at a premium.
Tech Stocks: Cisco (CSCO)
Many tech stocks have seen their revenue decrease in the era of chip shortages and global shipping challenges. Cisco Systems is one such company. But it’s not all bad — it still managed to grow even though many other firms suffered losses during this period.
Cisco’s success can largely be attributed to its ability to retain customers with innovative solutions while avoiding significant price increases. It has maintained its financial stability over the years with remarkable consistency, leading to its position as a relatively conservative pick among tech stocks.
The quarter ending Oct. 30 saw the company post revenue of $12.9 billion for the period — 8% higher than last year, but slightly below analyst estimates of $13 billion. Profits on a non-GAAP basis were just over the high end of its guidance range, coming in at 82 cents per share.
This is an excellent outcome for investors. It shows that even when excluding items like restructuring costs or patent litigation fees, there’s still plenty left over to give your company good margins.
According to CEO Chuck Robbins, the company’s relative underperformance is largely because of supply constraints. In a conference call with analysts, the executive said:
“We have been taking multiple steps to mitigate the supply shortages and deliver products to our customers, including working closely with our key suppliers and contract manufacturers, paying significantly higher logistics costs to get the components where they’re most needed, working on modifying our designs to utilize alternative suppliers where possible, and constantly optimizing our build and delivery plans.”
Looking ahead, Cisco issued muted fiscal second-quarter and full-year guidance. Consequently, the time to purchase this one is nigh.
Digital Realty Trust (DLR)
Digital Realty Trust is a company that specializes in data centers worldwide. Its focus lies in acquiring these real estate investments, managing them for maximum returns on investment and providing security measures against cyber threats like hacking or malware attacks.
Importantly, Digital Realty Trust is one of the many tech-focused real estate investment trusts (REITs) out there. A REIT holds and manages properties for the benefit of investors and is exempt from paying any tax on rental income generated. This is because a REIT must pay out at least 90% of its taxable income to stockholders, according to the Securities and Exchange Commission (SEC) guidelines.
If you combine that with a fast-growing industry like data centers, you have the makings of a very prominent company. Digital Realty Trust owns more than 280 data centers across the globe, serving customers in 26 countries. It has earned its place in the S&P 500 by providing battle-tested data centers. A strong total return indicates this company is reliable, and its dividend growth provides another feather in the cap.
However, as the industry matures, the company will face certain challenges. As data centers become part and parcel of our daily lives, several more-established companies will enter the fray. That will fragment the market and reduce the bottom line for Digital Realty Trust.
We also have the prospects of increasing interest rates. The argument has some merit. Officials in President Joe Biden’s administration have discussed this issue and how it will impact real assets in America, leading to negative consequences for the REIT sector. It would be best to wait for these themes to play out before buying DLR stock.
Tech Stocks: Tesla (TSLA)
Several hundred articles are written every month regarding Tesla and its overvaluation. The debate is not going to be settled anytime soon.
CNBC’s Jim Cramer describes TSLA stock as a “phenomenon.” Few can disagree with this assessment, as share price growth is not slowing down. If anything, it continues to rise exponentially after momentary blips.
Tesla CEO Elon Musk has spoken several times regarding overvaluation concerns surrounding Tesla, warning his employees that they have to maintain their momentum; otherwise, the stock price could “get crushed like a soufflé under a sledgehammer.”
Tesla has been making a name for itself with its innovative products and services. The company’s electric cars are proving to be popular, as they defy consumer expectations of what an electric vehicle manufacturer should provide in terms of range or charge times. In addition, Tesla also offers sustainable batteries that charge more quickly than ever before.
It’s no surprise that Tesla enjoys such a cult following. It continues to innovate its products and offer unparalleled customer support, making it the go-to brand for consumers looking to go green. However, due to this constant innovation, Tesla will continue to do well regardless of its financials.
On the publication date, Faizan Farooque did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Faizan Farooque is a contributing author for InvestorPlace.com and numerous other financial sites. Faizan 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. Faizan does not directly own the securities mentioned above.