Three months ago, investors probably didn’t believe DraftKings (NASDAQ:DKNG) stock would turn out to be a pandemic play. Professional sports leagues had shut down suddenly, with no certainty as to when they would return.
The end of those games meant, at least for a short time, the end of DraftKings’ daily fantasy sports and sports betting revenue. And yet, over the last three months, DKNG stock has rallied 189%.
The rally makes more sense than it might seem. Yes, DraftKings is taking a short-term hit. But the long-term outlook may well have improved. U.S. states are going to take budget hits in 2020 from both lower tax revenues and higher spending as a result of the novel coronavirus pandemic. They may turn to legalized sports betting — and in particular online sports betting — and iGaming to offset those pressures.
That said, it’s fair to wonder if the rally has run it course, at least for now. DraftKings stock has looked a little wobbly in recent weeks. And for three reasons, I wouldn’t be surprised to see the stock pull back even further. If and when that pullback arrives, long-term investors should pounce.
The DraftKings Stock Offering
The first reason for caution is that DraftKings itself is selling. The company last week priced a stock offering at $40.
Admittedly, that’s not necessarily bad news. DraftKings raised about $640 million before fees. The company still is burning cash, and will continue to do so in the coming years as it markets its sports betting offering in new states.
The funds raised last week will come in handy in those efforts. And DKNG stock, at Wednesday’s close, does trade modestly below the offering price.
But it wasn’t just DraftKings selling. Shareholders, all of whom invested in DraftKings before its merger with a SPAC (special purpose acquisition corporation), also took the chance to exit. Those shareholders combined sold 24 million shares, over 7% of shares outstanding.
Those shareholders are taking the chance to at least trim their positions. It’s fair to wonder if others won’t do the same.
Too Many Winners?
There’s another cause for concern with DKNG stock, and that’s the performance of the sector. Every company with sports betting exposure seems to be rallying.
Penn National Gaming (NASDAQ:PENN) has gained a staggering 790% off its lows. Other brick-and-mortar casino operators have seen their shares fall in 2020; PENN stock is up 24% year-to-date. Churchill Downs (NASDAQ:CHDN) is down just 3.2% at a time when its casino operations seem at significant risk.
To be sure, there’s some reason for the optimism. Indeed, I still like PENN stock at these levels. But the market also is pricing in a number of winners even though U.S. sports betting is largely a zero-sum game.
That seems dangerous, particularly in the context of another near-term risk.
Are Sports Really Returning?
The optimism toward sports betting that began in March probably benefited from the fact that gambling stocks already had plunged. If there are any stumbles on the return of U.S. professional sports with stocks at or near the highs, investors may not be so forgiving this time around.
And there are some signs that U.S. sports may not be so quick to return. Major League Baseball did announce an abbreviated season this week.
But a few NBA players have opted out of the so-called “bubble” in Orlando. There are some worries with the NFL schedule. And college programs including Clemson and the University of Texas have seen a significant number of coronavirus cases.
Investors shouldn’t sell DKNG stock, PENN, or other potential sports betting names even if professional seasons get delayed or even canceled. A single year doesn’t change the story enough for that kind of reaction.
But as we saw in March, what investors should do and what they actually do can be two different things. Given that DKNG stock is up so sharply from recent levels, some profit-taking wouldn’t be a surprise.
Again, I’d love to own DraftKings stock on a pullback. In fact, I wouldn’t hate to own it now. But with the rally stalling in recent weeks, and some potential stumbling blocks ahead, this seems like a case where patience might pay off.
Matthew McCall left Wall Street to actually help investors — by getting them into the world’s biggest, most revolutionary trends BEFORE anyone else. The power of being “first” gave Matt’s readers the chance to bank +2,438% in Stamps.com (STMP), +1,523% in Ulta Beauty (ULTA) and +1,044% in Tesla (TSLA), just to name a few. Click here to see what Matt has up his sleeve now. Matt does not directly own the aforementioned securities.