Monday’s sell-off on S&P’s possible downgrade of U.S. debt could be just a precursor of what is likely to be a very bumpy summer for the markets. The end of QE2 is but one of many challenges that equities are currently facing. Other headwinds include high gas prices, the deteriorating situation in Europe, Japan’s tragedy, Middle Eastern turmoil and increasing inflation. I believe the high beta momentum stocks that have led the market higher since QE2 began are likely to be the same ones that will lead the market down when QE2 runs out at the end of the quarter. These types of high beta story stocks are favorites of Jim Cramer. Reviewing his picks should be a good source for finding overvalued shares that will suffer greatly in any kind of significant pullback.
After reviewing dozens of his picks I have found four that I believe will be hit hard in the coming sell-off. Two come from his fabled C.A.N.D.I.E.S. Index, and the other two are among his top mentioned recommendations of the last month. These four stocks are Salesforce.com (NYSE:CRM), OpenTable (NASDAQ:OPEN), Lululemon (NASDAQ:LULU), and Deckers (NYSE:DECK), or what I am calling my S.O.L.D. portfolio. These should pullback significantly during what I believe will be a fairly hard summer swoon. Let’s examine these selections in more detail.
Salesforce.com (CRM): This company sports one of the most stretched valuations of any equity I have come across. CRM is selling at approximately 110 times trailing earnings as well close to 100 times predicted earnings for the current year. In addition, the stock is priced at almost 11 times sales. The stock also sells at approximately 14 times book value, 40 times cash flow and a PEG of over 3.3. Insiders have been heavy sellers of this stock and it is facing increasing competition from Microsoft (NASDAQ:MSFT) among others. Besides the excess liquidity created by QE2, a good portion of this stock’s momentum is due to its place at the vanguard of the “Cloud Computing” theme.
OpenTable (OPEN): This company provides restaurant reservation solutions. Insiders have sold over 20% of their shares over the last six months. This stock is selling at 95 times this year’s projected earnings and over 24 times revenues. Consensus earnings estimates for both 2011 and 2012 have remained flat over the last sixty days. The stock is trading at over 75 times cash flow and 184 trailing earnings. Growth is good but hardly justifies this valuation, as evidenced by a PEG ratio of 2.5.
Lululemon (LULU): This company sells at approximately nine times sales and close to 45 times projected earnings for 2011. The market is assigning a $50 million value to each of its existing stores and probably the highest per square foot of retail space value in the retailing universe. Lululemon is also facing increasing competition from Gap (NYSE:GPS) and Nike (NYSE:NKE). Insiders have sold over $40mm of stock recently and the last time we had a gas spike like this in the first half of 2008, LULU sold off over 50%.
Deckers Outdoor (DECK): Deckers Outdoor Corporation engages in the design, production, marketing, and brand management of footwear and accessories for outdoor activities and everyday casual lifestyle use. The company is selling at a little over 20 times this year’s projected earnings, has had significant insider selling over the previous six months, and is priced at over 3.5 times revenues. Although this equity’s valuation is not nearly as stretched as the other three selections on the list, it is highly valued for what basically is a footwear company. Deckers also had a 30% sell-off the last time we had similar run up in gas prices in 2008.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.