Get out…Now!

Wednesday, 2 September 2020
Melbourne, Australia
By Greg Canavan


Whether we’re at peak absurdity, or it’s still to come, is hard to tell.

But I think we’re close.

There are examples everywhere, especially in the tech space.

Take Tesla, the electric car and battery manufacturer. It’s a manufacturer, which requires lots of capital investment, both in plant and equipment and research and development. As a result, returns on equity and assets generally aren’t in the realm of capital light tech companies.

Still, that hasn’t stopped the evangelists from letting their imaginations run wild about Tesla’s future earnings potential.

As you can see in the chart below, the run up in price this year has been amazing. It now has a market value of $440 billion. Net profit this year is forecast at just over $1 billion. You know what that means, don’t you?

Tesla trades on a price-to-earnings multiple of 440 times!

2020 just keeps getting better, doesn’t it?

Port Phillip Publishing

Source: Optuma

[Click to open in a new window]

Of course, the brainiacs buying Tesla here aren’t looking at this year’s earnings. They’re buying future growth. It must be WAY into the future. Because ‘investors’ are still paying over 100 times for forecast earnings in 2022.

A similar level of insanity has hit the local ‘tech’ sector. Our ‘buy now, pay later’ stocks are Australia’s version of high-growth tech companies. But they are really just old-fashioned consumer credit companies, with a 21st century lick of paint.

Some profit taking swept the sector yesterday on news that US company PayPal is moving in on the sector. From the Financial Review:

A sell-off in Australia’s high-flying buy now, pay later sector on Tuesday after payments giant PayPal unveiled plans to launch a competing product in the US has ended a record-breaking run of share price performance for the ASX-listed trailblazers.

PayPal revealed its “Pay in 4” instalments offering to the New York Stock Exchange late on Monday night AEDT, sending shares in Afterpay down 8 per cent to $84.09, Zip Co 12.8 per cent to $7.99, and US-focused Sezzle 14.7 per cent to $8.76 in a buy now, pay later (BNPL) bloodbath.

An ironclad rule of business is that is if high profits are on offer, they will attract new entrants.

The weird thing about this business is that it is so new, there is not yet any evidence that high profits are available. The flood of companies in the space may be competing them away before they materialise!

Time will tell.

I’ve said this before, but if you’re relatively new to the stock market and are playing around in these stocks, you need to be very careful. If you don’t have a risk management plan, you’re almost certainly going to get burnt.

At times like these, when things are going well, emotions take over and you lose the ability to think rationally. The irony is that when your emotions take over the last thing you’re going to do is listen to some bloke like me telling you to think rationally.

It’s also at times like these where I think about my favourite investing quote, from the timeless book, The Money Game. It’s this:

If you don’t know who you are, this is an expensive place to find out.’

I fear that many newbies are about to learn that lesson in the second half of the year. Everyone does at some point.

The good news for investors is that this extreme speculation is confined to a limited area of the market. This is not a broad case of crazy valuations.

Some stocks will get slaughtered (the ones with ‘emotional’ valuations embedded), while ‘boring’ stocks — the ones with earnings, but not much growth — will do OK.

So if you have any semblance of your neocortex still functioning, take a long hard look at your portfolio now.

If you own companies simply because they’ve been going up, and hope they go up more, get out…now.

And if that flicker in your neocortex thinks you might need some help, go here. It’s an invitation to attend a special broadcast by my mate Callum Newman. Callum uses a centuries old methodology to find potential ‘catalysts’ that can lead to sharp share price moves.

Callum does meticulous research. He follows companies for months before identifying opportunities. He knows what these companies have been through, and knows where they’re going. So you’ll be in no doubt WHY you’re buying a stock. You’re waiting for a specific catalyst he’s identified!

It’s the opposite of today’s buy-and-hope strategy. 

Which, as I predict, will blow up in the coming months.

But as I said, the whole market isn’t at risk. The focus on the bubble stocks has taken attention away from large parts of the market that are actually decent value.

Having said that, there is a reason why some stocks look cheap here. The economy is in recession. Economic growth data out today showed the economy contracted by an unprecedented 7% in the three months to 30 June.

And with power hungry state premiers effectively in control of the economy, the market is beginning to reassess the pace and strength of the rebound. 

The market fell sharply — and broadly — yesterday, as it became apparent the premiers would dig in their heels over border closures and the pace of reopening. It bounced higher today, but the ASX 200 is still nearly 200 points below where it was at the June highs, when the prospects of recovery seemed brighter.

I know, I know. The border closures are all for our own benefit. We simply don’t know what’s good for us.

Meanwhile, 400 AFL officials just flew into the Gold Coast to prepare for the AFL Grand Final.

If it’s all about our health, surely such a large influx of people from Melbourne would be an unacceptable risk?

That’s the thing, dear reader. It’s not all about our health. It’s about politics and power. 

As a result, we could well be looking at another quarter of negative growth in the three months to 30 September. That could put us in depression territory. Given the market is a forward looking indicator, the fact that it remains stubbornly below its June highs suggests there’s not a lot of good news coming down the pike.

If you’re willing to be patient though, this is the time to do your homework and look at quality companies to own for years. Recessions don’t come along every day. In Australia, it’s been 30 years!

Don’t ignore the opportunity!