Making a proper distinction between fairly priced stocks and overpriced stocks is the key to investing success. However, the correctly priced and the overhyped toxic stocks are mingled in such a way in the marketplace that it is not easy to separate them. Investors who can figure out the overpriced stocks and dump them at the right time are the ones likely to make a profit.
In general, toxic stocks are burdened with huge debt loads and vulnerable to external shocks. Moreover, irrationally higher price of the toxic stocks are short-lived as the inherent value of these stocks is lower than their current price. Quite justifiably, if you own such toxic stocks for an inordinate period of time, you are sure to see huge erosion in your wealth.
Higher price of the toxic stocks can be ascribed to either an irrational exuberance associated with them or some serious fundamental drawbacks associated with them. If you own such stocks for long, you are likely to see a big loss in your wealth.
If you can, however, precisely pinpoint the toxic stocks, you may gain by resorting to an investing strategy called short selling. This strategy allows you to sell a stock first and then buy it when the price falls.
While short selling excels in bear markets, it typically loses money in bull markets.
So, just like identifying stocks with growth potential, spotting toxic stocks and dumping them at the right time is the key to safeguard your portfolio from big losses or make profits by short selling them.
Here is a winning strategy that will help you identify overpriced toxic stocks:
Most recent Debt/Equity Ratio greater than the median industry average: High debt/equity ratio implies increased leverage. High leverage indicates a huge level of repayment that the company has to make in connection with the debt amount.
P/E using 12-month forward EPS estimate greater than 50: A very high forward P/E implies that a stock is highly overvalued.
% Change in F (1) and F (2) Estimate (12 Weeks) less than -5: Negative EPS estimate revision for this fiscal year and the next during the past 12 weeks points to analysts' pessimism.
Zacks Rank more than or equal to #3 (Hold): We have not considered Buy-rated stocks that generally outperform the market. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Here are four of the 13 toxic stocks that showed up on the screen:
Illumina Inc. (ILMN - Free Report) : Illumina is a life sciences company, which provides tools and integrated systems for analysis of genetic variation and function. Over the past 30 days, the Zacks Consensus Estimate for 2020 earnings have declined by $1.76 a share. The metric suggests a year-over-year decline of 33.2%. The firm carries a Zacks Rank #5 (Strong Sell) at present.
PFSweb, Inc. (PFSW - Free Report) : PFSweb is an international provider of transaction management services for both traditional commerce and electronic commerce, or e-commerce, companies.Over the past 30 days, the Zacks Consensus Estimate for third and fourth-quarter 2020 earnings has declined by a penny and 11 cents, respectively. The company currently carries a Zacks Rank #4 (Sell).
Cameco Corporation (CCJ - Free Report) : Cameco is one of the world's largest uranium producers. This Zacks Rank #4 firm is a significant supplier of conversion services and one of two CANDU fuel manufacturers in Canada. Over the past 30 days, the Zacks Consensus Estimate for 2020 loss has widened by 2 cents.The consensus mark for 2020 sales suggests a year-over-year decline of 8.42%.
BioMarin Pharmaceutical Inc (BMRN - Free Report) : BioMarin focuses on development and commercialization of treatments for serious life threatening medical conditions, primarily for children. Over the past 30 days, the Zacks Consensus Estimate for 2020 earnings has declined by 18 cents a share.
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Disclosure: Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material.
Disclosure: Performance information for Zacks’ portfolios and strategies are available at: https://www.zacks.com/performance