Skip to Content
Commentary

Avoid These Four Highflying Stocks

Stocks as a whole aren't outrageously expensive even after the recent runup, but these names have fallen firmly into the overvalued category.

Mentioned: , , ,

Stocks have started off 2012 with a bit of a bang. The broad-market Morningstar U.S. Market Index is up 4.8%. A big driver for this increase could be that a lot of the bad news that seemed to dominate the headlines in 2011 has been in short supply so far in 2012. Economic data keeps pointing to a continued, if slow, expansion in the United States while emerging markets are still growing at a fairly impressive clip.

And in Europe, the market seems to be taking no news as good news. The European Central Bank's plan to funnel money into struggling banks to keep them afloat seems to be working. Furthermore, the restored confidence in banks has helped bring down yields on sovereign bonds across the eurozone. Even Standard & Poor's downgrade of a slew of nations last week didn't do much to shake the market.

The rally that started the year has not yet sent stocks into untouchable territory. Even after the burst of optimism during the last few weeks, stocks remain slightly undervalued (8%) according to our equity analysts. This is a far cry from the 33% discount they saw just last October, but we aren't in nose-bleed territory yet.

However the aggregate data obscures the fact that the runup in some companies has sent their shares firmly into the overvalued column. This is particularly true for a number of firms in the consumer, technological, and real estate sectors that have been on hot streaks lately. If the cheery mood begins to falter (and it almost certainly will, given the headwinds that the economy still faces), it could very well be these names that will take the hardest hit.

To uncover these overvalued stocks, we used the  Premium Stock Screener to find shares with Morningstar Ratings for stocks of 1 star that have beaten the market average so far in 2012 and had a top-quartile return during the trailing-12-month period. Here are four stocks to avoid. See the whole list and run the screen for yourself by  clicking here.

 Seagate Technology (STX)
Fair Value Uncertainty Rating: Medium | Economic Moat: None | YTD Return: 21%
From the  Premium Analyst Report:
Secular trends toward increasing storage requirements--the creation, sharing, and aggregation of digital content, data backup requirements, and the increasing use of storage in consumer electronic devices--have been a boon for hard disk drive makers in recent years. Industry shipments have grown by double-digit rates in each of the past eight years except 2009. Although these secular trends are intact, emerging substitute technologies are an increasing threat. Though we expect hard disk drives to remain the dominant storage technology, we believe SSDs and tablets will pressure volume growth and increase industry pricing pressures, and we forecast annual unit average selling price declines in the midsingle digits in the coming years.

 Douglas Emmett (DEI)
Fair Value Uncertainty Rating: High | Economic Moat: None | YTD Return: 11%
From the  Premium Analyst Report:
Douglas Emmett is a real estate investment trust that invests mainly in office properties in Los Angeles County and Honolulu, Hawaii. We do not see evidence of an economic moat in its financial results, and given its regional concentration and exposure to small- and medium-sized businesses, we believe there is a high degree of uncertainty around our fair value estimate.

 Garmin (GRMN)
Fair Value Uncertainty Rating: Medium | Economic Moat: None | YTD Return: 6%
From the  Premium Analyst Report:
Garmin delivered blistering growth and impressive returns as navigation devices enabled by global positioning system technology became widely adopted. Despite impressive results, we believe Garmin could struggle to maintain its success as the competition builds. An increasingly crowded market for GPS-enabled navigation devices now includes low-cost Asian manufacturers. Increased competition in the outdoor/fitness segment could lead to declining revenue and margin compression, much like the automotive segment now faces. Consumers may become increasingly reluctant to buy stand-alone GPS devices now that many cellular phones are GPS-enabled. Garmin has little experience in developing smartphones, and the nuvifone strategy has been a total failure.

 Take-Two Interactive Software (TTWO)
Fair Value Uncertainty Rating: Very High | Economic Moat: None | YTD Return: 11%
From the  Premium Analyst Report:
Take-Two has profited from the success of its Grand Theft Auto franchise, but the company has missed the opportunity to capitalize on the growth of the video gaming market. We are unenthusiastic about Take-Two's expansion into the sports business. The firm has secured exclusive third-party rights to Major League Baseball content along with other deals. The sports genre is attractive because customers tend to make repeat purchases on an annual basis to keep rosters current. While this offers the potential for stable recurring revenue, we expect higher levels of research and development spending as Take-Two's sports titles go up against sports leader EA. Margins in sports are also compressed because of high league-licensing fees. The 2K Sports label is unprofitable, and we are skeptical that this will change in the near future.

Bearemy Glaser does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.