Several important data points were released in the past week. The stocks started the week with mixed investor sentiment. While Dow Jones started in the green territory, the Nasdaq composite was down by 0.75% on Monday. The following day, stocks supported a big rally. Tech and energy stocks led the markets higher. Apple (AAPL) was up by almost 5% on Tuesday. The gains did not extend to Wednesday. The earnings of major companies failed to impress the investors, which caused a modest fall in equity markets.
Due to lackluster economic news and ongoing European debt issues, the losses extended to Thursday. Financials were among the biggest losers, primarily due to the FED's warning. A statement from the Federal Reserve suggested that investment banks should separate their proprietary trading activities from the rest of their operations. While the markets did not welcome this warning, I think it was well-founded. The recent financial crisis showed that the financial markets require a better regulatory environment and FED is moving in this direction. The stocks ended the week with modest gains. Healthcare stocks were the top performers, followed by utilities and conglomerates.
Amidst this investing atmosphere, several stocks made it to new highs in the past few weeks. A stock is usually considered overbought when the relative strength index reaches above 70. That does not mean that these stocks are expensive. I would rather consider them momentum stocks, supported by short-term catalysts. Nevertheless, overbought stocks signal a red flag for contrarian investors. Based on the Relative Strength Index [RSI] indicator, I noticed 5 stocks that are in overbought territory. Let's see, what is driving these stocks, and whether they are still worth considering after making significant recent gains.
Altria (MO) - Buy After Pullback
Altria is one of the most stable companies in its industry. Thanks to its durable business model and strong customer loyalty, it is able generate a solid cash flow from its operations. It also shares its profits with the shareholders through fat dividend checks. Current yield of 5.14% is among the top yields in the market. However, after returning almost 30% in the last 12 months, the stock is trading slightly above my target price.
The company has been quite an outperformer since its spin-off. Altria has several well-known brands in its portfolio. Marlboro, Virginia Slims, Parliament, Basic, and L&M are among the several cigarette brands offered by Altria. Thanks to its increasing profits, it has been a great stock in the last 3 years. It returned almost 180% since its dip of $12 in 2009.
However, I am not sure it is a good buy at the moment. Its growth prospects are more than fairly priced by the market. Analysts estimate a modest growth of 8% for the next 5 years. Based on this estimate my FED+ fair value range for Altria is $27 - $29. At the current prices, it is trading with a substantial premium to my fair value estimate. While I think Altria is a good buy for the long-term, a pullback might create a better entry point.
Kimberly - Clark (KMB) - Buy After Pullback
Kimberly-Clark is one of the oldest companies in U.S. history. Established in 1872, the Dallas, Texas-quartered KMB engages in the manufacturing and marketing of personal care products worldwide. The company hosts several well-known brands in its portfolio. In February the company announced that its Kotex brand crossed over $1 billion in revenues. This remarkable achievement is a natural extension of the company's global feminine care business's double-digit growth over the last few years.
KMB has been extremely resistant to the recent global economic downturn. Not only was it able to boost profits, the stock has shown a strong performance in the market during volatile times, returning 20% in the last year alone.
Kimberly - Clark is also a nifty dividend payer. The current yield is 3.87%, with a payout ratio of 70%. Thus, earnings more than fully support the yield. The stock has been a long-term outperformer, but it recently entered into overbought territory. KMB has a stable business model where analyst estimates closely match company's actual results. Analysts estimate an annualized EPS growth of 6.40% for the next 5 years. This is a reasonable estimate given the company's past performance. Based on this estimate, my FED+ fair value range is $60 - $74. The stock is overvalued at current prices-- therefore, I recommend waiting for a pullback.
Human Genome Sciences (HGSI) - Watch for Big Moves
There are times when it pays to be patient. Your stock keeps dropping and you start losing hope. At the moment you throw in the towel, a larger competitor makes a bold offer on your company and your stock closes the week with a 100% gain. Human Genome Sciences is one of these companies. The stock was in free fall since last July. At the beginning of the week, it was trading for as low as $7, which is almost 80% below its 52-week high. Thanks to Glaxo's (GSK) $13/share offer, the stock made a quick rush above $14 by the end of the week.
Human Genome is a biotechnology company with several products in its pipeline. The company has a license agreement with GlaxoSmithKlein for the co-development and commercialization of BENLYSTA (the first FDA-approved treatment for lupus in over 50 years). Glaxo's offer suggests a market cap of $2.6 billion for Human Genome Sciences. Management rejected this offer, claiming that it undervalues the company's potential. The current market cap of $2.86 billion is slightly above the takeover bid. Management is probably looking for a higher number around high-teens. I think $13 per share is already in the pocket., therefore the downside is limited. While it is too late to jump on this ship, watch the stock for big moves this week.
Dollar Tree (DLTR) - Buy After Pullback
Established in 1986, Chesapeake, Virginia-headquartered Dollar Tree Inc. became one of the largest discount store chains in the U.S. The company operates more than four thousand stores across North America. Its business model is based on offering anything for a dollar. While some stores also charge higher prices for several items, the company is best known for offering anything at the fixed price of $1. Apparently, this simple price scheme is highly favored by consumers. The company was able to boost its earnings at an annual rate of 27% in the last 5 years.
Dollar Tree stock has also been an outperformer, returning more than 20% this year alone. The company is almost debt-free with a low debt/equity ratio of 0.2. Those who invested in DLTR in 2009 enjoyed returns of more than 400% in the last 3 years. However, after its home-run since 2009, the stock looks fairly valued. Based on an earnings growth estimate of 18.2%, my fair-value range is $95 - $106 for this company. The current price fits perfectly within my fair value range. RBC also has a target price of $100. Insiders are selling their stocks and exercising options for a while. I think the stock could be a good buy after it falls below my fair value range.
Atlas Energy (ATLS) - Wait for a Pullback
The Pittsburgh, Pennsylvania-headquartered Atlas Energy L.P. engages in the development and production of natural gas and oil-related assets in the continental U.S. As of last quarter, it has interests in more than 9,000 oil and natural gas wells and proved reserves of 167.6 billion cubic feet equivalent. The company also operates 7 active natural gas processing plants. Its pipelines stretch for approximately 9000 miles. The stock has been an outperformer, returning 70% this year alone.
As a master limited partnership, Atlas Energy offers a yield of 2.57%. MLPs are not tax exempt, but their distributions can be registered as capital depreciation, effectively reducing their tax base. Thanks to this favorable tax status, these companies offer substantial distributions to the unit holders. Given the low-interest environment, their distribution rates are much better than the paltry interests offered by government bonds. However, after its most recent run, Atlas' yield falls short of the average yield of MLPs in the business.
The forward P/E of 12.6 suggests the stock as a good deal, but the current price of $37 does not offer much margin of safety. Besides, there are some gaps within the $25 - $27 range, which I expect to be filled in the next market correction. While I do think the company still has upside potential left, I would rather wait for a pullback before buying this stock.
Disclosure: I am long AAPL.