Are Markets Overvaluing These 3 Stocks? LULU, NFLX, SQ

Are Markets Overvaluing These 3 Stocks? LULU, NFLX, SQ

Two recent events have brought the issue of stock overvaluation into sharp focus. First, Tesla (NASDAQ: TSLA), the original meme stock, hit a trillion-dollar market cap. Second, Rivian Automotive (NASDAQ: RIVN), an electric vehicle newcomer, surpassed the valuation of Ford Motor Company (NYSE: F) following its NASDAQ listing.

One common way to assess whether a stock is overvalued is by examining its Price-To-Earnings (P/E) ratio. As of now, Tesla’s P/E ratio is approximately 350, while Rivian, with no sales yet, doesn’t have a discernible multiple. Such high multiples often raise concerns among investors, especially if a company’s profitability seems unlikely to grow enough to justify its stock price. Tesla and Rivian are prime examples of companies considered overvalued by many analysts. But what about other stocks? Here’s a look at three more companies analysts commonly categorize as overvalued.

Lululemon Athletica (NASDAQ: LULU)

Lululemon, the athleisure wear giant, has seen its stock price soar despite being flagged as overvalued by several outlets, including Forbes, in 2021. The stock is currently trading at US $465, which is about 15% higher than its peak in the first half of the year (US $404). This puts its P/E ratio at approximately 74x earnings.

While the stock’s momentum can be attributed to consistent earnings beats, ambitious sales targets, and a loyal customer base, Lululemon’s valuation could be seen as justified as long as it continues its growth trajectory. If the company can maintain its momentum and higher margins, the stock might be fairly valued, but this remains to be seen.

Netflix (NASDAQ: NFLX)

Netflix has faced criticism for being overvalued for years, even as it reported strong subscriber growth, particularly during the lockdowns. Analysts have raised concerns about the significant cash burn Netflix faces in order to maintain its industry leadership and continue to satisfy its growing user base.

On the other hand, bullish analysts point to Netflix’s improving operating margins (which have risen from 16% to 23.5% YTD). However, Netflix doesn’t count content generation costs as operating expenses; they are considered fixed costs. So, while Netflix’s operating margin improvement looks promising, critics argue that it might be more of an accounting adjustment than a meaningful metric.

As of now, Netflix shares are trading around US $690, resulting in a P/E ratio of approximately 62. While the company’s growth story is compelling, questions about its long-term sustainability still linger.

Square (NYSE: SQ)

Square, the digital payment provider, has drawn attention for its high valuation relative to its growth potential. Analysts at Morningstar suggest that Square is trading at more than double its fair value estimate (US $230 vs. $112), giving it a P/E ratio of about 240.

While Square is experiencing growth, its valuation seems to be out of sync with its long-term outlook, especially given the growing competition from PayPal (NASDAQ: PYPL) and Fiserv (NASDAQ: FISV) — companies that are rapidly gaining traction in the digital payment space. Despite Square’s strong position, the increasingly competitive landscape raises concerns about its ability to maintain its high valuation over time.

Conclusion

While all three of these stocks—Lululemon, Netflix, and Square—have compelling growth stories, their high P/E ratios suggest that they may be overvalued relative to their current earnings. Investors should carefully consider whether the growth potential of these companies justifies their lofty valuations or if they’re at risk of experiencing a market correction in the future. As always, caution and careful analysis are key when investing in high-multiple stocks.