3 Stocks That Let Me Know We’re in a Bubble

According to Wikipedia, the definition of a stock market bubble is “a type of economic bubble taking place in stock markets when market participants drive stock prices above their value in relation to some system of stock valuation.”

If we look at the S&P 500 using valuation metrics, it certainly looks like it’s in bubble territory. For instance, the…

average price to earnings (P/E) ratio for the S&P 500 has historically been between 13 and 15. It is currently 29.50, which is higher than it has been on only two other occasions, during the end of the dot-com era and in January 2009. Historically, when the P/E for the S&P 500 has risen this high, it was followed by a market crash.

If we consider the forward P/E ratio of the S&P 500, which is currently 26.17, according to Birinyi Associates, it has only ever been this high one other time, in 1999 at the height of the dot-com era. Another valuation metric, the Shiller P/E, based on the average inflation-adjusted earnings from the previous ten years, is at the second-highest mark ever, second only to 1999. See the chart below.

(Shiller P/E Courtesy of Multpl.com)

The S&P 500’s price-to-sales ratio is 2.44, its highest ever. Another valuation indicator is the “Buffet Indicator.” This metric takes the total market Wilshire 5000 index and divides it by the annual U.S. GDP. The ratio currently sits at 1.7, its highest level since right before the dot com bubble burst in 2000.

All these valuation metrics point to a highly overvalued stock market, but what about the stocks themselves. How overvalued are some of the big names in the market? In this article, I will cover examples trading at sky-high valuations: Tesla (TSLA), Wayfair (W), and Zoom (ZM).

Tesla (TSLA

TSLA, which was founded in 2003, is a vertically integrated sustainable energy company that aims to transition the world to electric vehicles. The company also sells solar panels and solar roofs, plus batteries for stationary storage for residential and commercial properties.

The stock’s price, as of the end of Monday, was 2,014.20. That price represents a P/E ratio of 1,042.55, a ridiculous figure. Other valuation metrics are just as absurd. The company’s price to sales ratio is 15, and its price to book ratio is 38.1. For comparisons’ sake, the industry P/E is 82.6, its price to sales ratio is 0.6, and its price to book ratio is 1.3. Yes, the company recently posted its fourth consecutive quarterly profit, but four successive quarters should not lead to such a high valuation. The average analyst price target for TSLA is 1,295, well below its current price.

TSLA, currently up 33% for the month, has a market cap of $375 billion, higher than even Walmart (WMT). While TSLA has a first-mover advantage, more automakers are developing and marketing their own electric vehicles. This will reduce the company’s market share in the electric vehicle market. In terms of profitability, the company has a meager return on invested capital (ROIC), which I believe is the best measure of profitability. Its ROIC is 4.3% compared to the S&P 500’s ROIC of 15.3%. While TSLA may be a good momentum stock, its price has gotten way ahead of its underlying fundamentals and risks. The company is entering a spending cycle with the construction of new factories in Germany and here at home, which will act as a significant drag on free cash flow for the next several quarters.

Wayfair (W)

W engages in e-commerce in the United States and Europe. At the end of last year, the company offered approximately 18 million products from more than 12,000 suppliers for the home sector under its brands Wayfair, Joss & Main, AllModern, DwellStudio, Birch Lane, and Perigold. Products include a selection of furniture, decor, decorative accent, housewares, seasonal decor, and other home goods.

The stock ended Monday’s trading at 338.00, up 55% for the month. The company has a P/E of -29.7. The figure is negative since the company only had its first positive earnings for this past quarter. Its price to free cash flow ratio is

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