This weekend when most investors are hanging out with their families for Fathers Day, Hedgephone.com is hard at work looking for undervalued and overvalued issues to trade for the week ahead.
With the markets beginning to break major technical levels of support including their 150-, 100- and 50-day moving averages, the short side looks to be a better trade than the long side. As we are fairly non-directional in our approach to investing, we are pretty much looking to sell bear call spreads on stocks that look far too expensive on the short side and to sell bull put spreads on stocks that appear undervalued to us based on cash flows, book values, competitive advantage, and brand equity. While we prefer to invest our money in shares of Coca Cola, McDonald's, Phillip Morris, Microsoft, Johnson and Johnson and physical gold and silver the overall market looks extremely ripe for a sharp 10-15% correction at present.
Because the stock market appears so stretched and the banking system still appears quite fragile, we are looking at our proprietary screens for short candidates, which looks at price to operating cash flows over 100X, price to book value at over 10X, price to sales of over 10X, etc ...
Here is a list of 10 names that fit into this short screen and a brief description of their fundamentals.
(NASDAQ:MELI) -- Mercadolibre: looks fairly cheap here, but we wonder whether the current earnings are of "high quality -- meaning backed by free cash flow" and if the company has transitioned to the e-book market. To be fair, this stock actually looks more reasonable at first glance than the other names here because of their high earnings growth rate and fairly strong cash flows from operations. That said, after backing out changes in short term liabilities (borrowing money is not earnings) and subtracting capital expenditures, MELI looks substantially overvalued. The company in essence earned $20MM in free cash flow and made investments of $45MM in investments last year, which raises several red flags for us. We will be looking to sell bear call spreads against this name on any significant rally next week. Looking at the chart, we see strong support at $75 so we would not enter into a bearish trade until the stock closes below support at $75. Likewise, we will be looking to short the name if it hits resistance at $90 per share with a stop at 1% above the YTD high at $93 or so -- the stock currently sells for $76 a share.
(NYSEMKT:VHC) -- VernetX Holding Corp: This stock looks reasonable or even cheap at first glance with a PE of 31 and high sales growth rate. After kicking the tires and looking under the hood, however, things don't look so rosey -- after all/ VHC has lost over $33MM over the past two quarters and is cash flow negative on a multi-year basis and a quarterly basis. In other words, their business is not profitable whatsoever. The stock is up substantially, which leads us to believe they are either the next Google (NASDAQ:GOOG) or some type of pump at this point. We will be leaning toward the latter but will be limiting our risk through the sale of a bear call spread and not a direct short of the common stock. In the past three months, VHC lost $7MM while generating a good amount of cash from selling assets. The stock is up from $1 a share in September of 2009 to a price of $26 today -- we like the risk/reward of a short here as this company has almost zero revenue (they had revenue of just $17,000 and all of their earnings in 2010 came from non-recurring items). Talk about an investment based on future earnings! We will be shorting this stock this week for size.
(NASDAQ:VRTX) -- Vertex Pharmaceuticals: is a stock we have shorted a few times in the past, though we don't like shorting biotech names as a general rule. The company has no earnings this year, trades for a price to sales ratio of 48, but has a forward PE ratio of just 11.5X earning. We are going to scratch this name off of our short list even though we think analyst estimates are usually complete falsehoods in general. Sometimes the street gets it right but many times they are simply helping out their investment banking clients with nosebleed valuations -- such a nice financial system we have right now. Like painting yourself into the ultimate corner.
(NASDAQ:TSLA) -- Tesla Motors: Yes, they make cool cars and have grown revenues substantially, but those items likely are priced into the stock already. Tesla shares look tremendously expensive to me even if they hit widespread popularity with their cool looking cars. With the price of rare earth elements up some 100% just this month alone, it appears to me that green tech autos are likely more hyped than they are practical at this point. After all, it takes rare earths to make these cars function and China is a little upset at our leaders for the whole "too-big-to-fail" debacle and bailouts of the rich at present. One thing Tesla is exceptionally good at is losing money -- they lopped off a cool $100Mm of investor money in just the past two quarters. Likely, the U.S. government will be deeming them a strategically important company and will spend your tax dollars on this bloated stock at some point just as they did with Energy Conversion Devices (NASDAQ:ENER), Evergreen Solar (ESLR) and Siga Technologies (NASDAQ:SIGA) -- it pays to know people if you catch my drift.
(NASDAQ:IMGN) -- Immunogen: Another biotech to consider shorting is Immunogen. This pumped up equity trades for a whopping 45X sales and loses money in a consistent fashion. As I don't like shorting biotechs, this one will take further research before I sell bear call spreads against it, but at first glance it appears that those investing in this name are gambling big on future events that they cannot control. The stock is up 100% plus since September and if the markets sells off I expect IMGN to crash in sympathy regardless of their newest drug or deal with the U.S. Government.
(NASDAQ:OPEN) -- OpenTable: OpenTable was a stock I liked from the short side for the past six months. I had to sit through a nasty draw down but thankfully the pump job is finally over and shares have collapsed beneath the 200-day moving average on this dot bomb name. OPEN still trades for 128X earnings and a huge multiple to revenue. The departure of the CEO is a huge red flag and the fact that the stock is in a confirmed downtrend gives me reasons to be bullish on my bearish long term thesis on this stock. A quick look at Alexa.com shows the site's page rank is actually falling, which is at odds with all of the bullish analyst calls on the street here.
(NYSE:LNKD) -- LinkedIn: We first recommended shorting LNKD at $110 a share. Unfortunately, we could not find shares to short of this name. That said, we did finally get some orders filled and have shorted some calls on the stock which we think is still 50% too expensive at a price of $66 a share. Look for LNKD to continue heading much, much lower as Wall Street did a good job of "market making" on the first day of trading here -- you see, the market makers are the ones who many times decide what prices these things should trade for and they are paid handsomely to manipulate stocks in whatever direction the big boys want.
(NASDAQ:YNDX) -- Yandex: is the Russian Google. Either that, or it's the Russian Pandora (NYSE:P). I am leaning with the latter as the stock is trading for 65X earnings but also for a price to sales ratio over 19X, a price to book of over 25X and an EV/EBITDA of over 45X. The reason that so many youngsters are flocking to the dotcom 2.0 bubble stocks is because they are too young to remember the last dotbomb bubble. As many wise traders have said in the past, every new generation has to get fleeced on Wall Street at least once before learning the ropes. In my view, Johnson & Johnson (JNJ is the only biotech worth owning here.
(NASDAQ:BIDU) -- Baidu: This is the not so little Chinese momentum stock that could. All of the other Chinese momo pumps that we have covered have tanked in the recent past including SINA and Yoku.com (NYSE:YOKU) which are both down over 30% since we initiated a strong short sale advisory on them at Seeking Alpha. We think Baidu is a good company in all likelihood but we also think that a price to sales ratio of 30X is too high for even the best companies in the world. In other words, if they have one earnings hiccup, this stock could trade like SINA or even worse, Sino Forest.
(NYSE:CRM) -- Salesforce: CRM makes this list of overvalued names as the company trades for around 400X earnings. We like the company, think management is smart, but we absolutely hate the stock at $140 a share and are short calls against CRM. We think the company is worth around 3X sales and that eventually the powers that be will let the stock trade at a more reasonable multiple. Currently, the big institutions own a ton of CRM and we think that redemption's will soon force them to sell their most expensive and overvalued holdings.
Disclosure: I am short OPEN, CRM, YNDX, LNKD. I may short names on this list this week or next week.