Tuesday, 31 October 2023

These 3 Stocks Might Be Getting a Little Too Expensive

by Rose White

Anytime a stock is already trading at an inflated valuation, the potential for significant price appreciation shrinks. Worse yet, overpaying for a stock increases the risk of losses if a company’s valuation falls back to its historical average or more in line with its peers.

With that in mind, here are three stocks that are starting to look a little too expensive.

1. Apple

With a market capitalization of $2.7 trillion, Apple (NASDAQ: AAPL) is the world’s largest publicly-traded company and a particularly notable example of an expensive stock. Its shares have generated a total return of 31% so far in 2023, handily outpacing the S&P 500‘s total return of 9%.

The company is a favorite of famous investor Warren Buffett and his company, Berkshire Hathaway, representing roughly 51% of its $350 billion stock portfolio. At Berkshire’s 2023 annual shareholder meeting, Buffett called Apple a “better business than any other we own [outright].”

Despite its strong market performance year to date, Apple’s revenue and net income through the first nine months of its fiscal 2023 are on the decline. It generated $293.8 billion in revenue and $74.0 billion in net income during that period, down 3.4% and 6.4% year over year, respectively. Management has pointed to a declining smartphone market, particularly in the U.S., as the primary reason for the top- and bottom-line weakness.

The stock appears relatively pricey based on the widely-used price-to-earnings (P/E) ratio. Hovering at 28.5 times earnings, Apple stock is trading above its five-year average of 25.7 and the broad market’s 18.9.

2. Meta Platforms

The next stock on this list, Meta Platforms (NASDAQ: META), might be better known to consumers through its social media platforms such as Facebook, Instagram, and WhatsApp. Meta stock has performed exceptionally well in 2023, producing a 152% gain year to date.

The turnaround in 2023 might be attributed to CEO Mark Zuckerberg’s commitment to making it a so-called “year of efficiency.” The stock shed roughly 64% in 2022, partly because of management’s decision to pour billions into its highly unprofitable Reality Labs division, which produces hardware and software for augmented reality and virtual reality.

As a part of the improved efficiency goal, Meta has slashed 24% of its workforce over the past year and authorized a $40 billion increase to its existing $10 billion share repurchase program. The result is $11.6 billion of net income in Q3 2023, a 164% increase from the year-ago quarter.

And earnings per share jumped 168% from $1.64 to $4.39 as the company repurchased nearly 2% of its shares outstanding over the past year.

Despite the turnaround, Reality Labs has reported $11.5 billion in operating losses so far in fiscal 2023, which was 22% worse year over year. And CFO Susan Li expects the division’s operating losses to increase meaningfully in 2024.

Meta trades at a P/E ratio of 26.9, also higher than its five-year average of 25.2. Combine the premium valuation with the ballooning losses for Reality Labs, and the stock seems overpriced, despite the improved efficiency.

3. Wingstop

Generally, restaurant stocks don’t tend to trade at high valuation metrics like tech stocks do, but one exception is Wingstop (NASDAQ: WING). Shares of the restaurant chain are trading at an astounding 85.6 times earnings, far exceeding the price tag for its industry peers.

For example, Domino’s and McDonald’s trade at multiples of just 25.6 and 24.1, respectively.

The stock is up 31% year to date and has generated a return of over 800% since its initial public offering in 2015. Digging into the company’s financials and management’s goals for expansion explains that performance.

First, the company says it has a 19-year streak of growing its same-store sales (comps), a key metric for restaurant stocks that indicates how established stores are performing. During its fiscal 2023 second quarter, Wingstop generated 16.8% domestic comps growth. Domino’s and McDonald’s reported a 0.6% decline and 10.3% growth, respectively, for comps in their most recently reported quarters.

That superior comparable-sales growth helped Wingstop grow revenue 27.9% year over year to $107.2 million in its fiscal second quarter. Net income of $16.2 million was up 21.6%.

Management’s lofty long-term goal of expanding from 2,046 restaurants as of July 1 to 7,000 global locations also brings tremendous upside for patient investors. I’ll underscore the word “patient” because over the past year, Wingstop expanded its network by 188 franchises.

Will these stocks continue to beat the market?

There is a fine line between market timing and waiting for a better price to purchase shares in a great company. Investors trying to time the market by buying and selling in and out of positions for potential short-term gains have historically been burned. On the other hand, investors also take on more risk buying stocks at inflated valuations.

These three companies may be leaders in their respective industries, but investors are better off adding them to a watch list and waiting for a better entry point.

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Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Collin Brantmeyer has positions in Apple and Berkshire Hathaway. The Motley Fool has positions in and recommends Apple, Berkshire Hathaway, Domino’s Pizza, Meta Platforms, and Wingstop. The Motley Fool has a disclosure policy.