Investment in a stock with valuation above its true potential is bound to translate to loss over time. Overvaluation implies that the current price of the stock is not justified by its business conditions and therefore, a decline in price is inevitable.
A stock becomes overpriced due to irrational exuberance associated with it or some serious weakness in the company’s fundamentals. As a result, owning these stocks could lead to erosion of wealth for an investor.
Investors who can identify toxic stocks can actually gain even in a bear market by resorting to an investing technique called short selling.
In short selling, one can sell an un-owned stock and then purchase it when the price falls. Naturally, short selling has excelled in bear markets, while it typically loses money in bull markets.
So, just like selecting good stocks, identifying toxic stocks is also crucial in shielding one's portfolio from massive losses or making 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 over 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 28 toxic stocks that showed up on the screen:
HealthEquity, Inc. ( HQY Quick Quote HQY - Free Report) : Headquartered in Draper, HealthEquity provides technology-enabled services platforms that allow consumers to make healthcare decisions. The stock currently carries a Zacks Rank #5 (Strong Sell) and has a VGM Score of C. The Zacks Consensus Estimate for fiscal 2022 earnings implies a 16.2% year-over-year decline. NeoGenomics Inc. ( NEO Quick Quote NEO - Free Report) : This company operates a network of cancer-focused genetic testing laboratories in the United States, and other laboratories in Switzerland as well as Singapore. The stock currently carries a Zacks Rank #5 and has a VGM Score of F. The Zacks Consensus Estimate for 2021 earnings implies a 66.7% year-over-year decline. The Howard Hughes Corporation ( HHC Quick Quote HHC - Free Report) : The company owns, manages and develops commercial, residential along with mixed-use properties throughout the United States. The Zacks Consensus Estimate for the bottom line for the current year is pegged at a loss of 47 cents per share. The consensus estimate has deteriorated from earnings of $2.51 a share over the past 90 days. The stock currently carries a Zacks Rank #4 (Sell) and has a VGM Score of F. StoneCo Ltd. ( STNE Quick Quote STNE - Free Report) : Brazil-based StoneCo provides financial technology solutions to clients, and integrated partners for conducting electronic commerce across in-store, online as well as mobile channels. The stock carries a Zacks Rank #5 and has a VGM Score of F, at present. The Zacks Consensus Estimate for 2021 earnings has been revised downward by 8.3% to 88 cents a share over the past 30 days.
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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.
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