Have Stocks Become ‘Absurd’?

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Source: Thinkstock

Source: Thinkstock

Recently, the famous short seller Bill Fleckenstein told CNBC that he is raising money in order to set up a fund that will sell technology stocks short. He also said that stock valuations in many cases are absurd. Investors are justifying paying historically high prices for stocks because the Federal Reserve’s benchmark interest rate is near 0 percent. This makes it extremely difficult to earn returns and an investor might justify holding shares of, for instance, Facebook (NASDAQ:FB) — which trades at nearly 50 times 2014 earnings estimates — than holding cash.

Now that isn’t to say that there aren’t pockets of value in the stock market. For instance, a couple of companies that I like – CF Industries (NYSE:CF) and Kinross Gold (NYSE:KGC) — trade at about 10 times earnings and at 8 times earnings, respectively.

But Fleckenstein is absolutely correct in his assertion that valuations in some technology companies are reaching absurdity. I have already pointed out regarding Facebook. We can also look at some of the 3D printing companies. While there is a lot to like about this industry going forward, some of the valuations have become ridiculous. For instance, this piece, published by Bloomberg in January about Fleckenstein’s intention to go short, highlights Voxeljet AG (NYSE:VJET), which is a 3D printing company that earned just $290,000 in the third-quarter of 2013 but which had a $593 million market capitalization at the time (the company now has a valuation just under $400 million.)

With this in mind, it is evident that there are a lot of pitfalls in the stock market. While short selling should be left to the professionals, retail investors can do the following in order to preserve their capital and make money in the stock market longer term.

First, avoid “hot stocks,” especially if they don’t have the earnings or the sales to back up their valuations. When you buy these stocks, you are betting on a story. Voxeljet AG investors may turn out to be correct, but it is very difficult to know this without having intimate knowledge of the company’s patents and products. Most retail investors don’t have the expertise to make such judgments, and they should stay away from these sorts of investments.

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