Should I avoid overvalued stocks?
If investors purchase overvalued stocks at inflated prices, they will likely experience significant losses when the price eventually corrects its intrinsic value. This can cause long-term damage to an investor's portfolio and retirement savings.
Investors should consider trimming or exiting overvalued positions and reallocating to undervalued stocks for sustained growth. In the dynamic world of investment, recognizing the nuances of market cycles is pivotal for sustaining long-term success.
Overvalued stocks are ideal for investors looking to short a position. This entails selling shares to capitalize on an anticipated price declines.
Generally, undervalued shares are favored over overvalued ones, as the investors buy low and sell high. If the company is performing well, it can give promising returns. Buying an overvalued share doesn't have this advantage, as the price returns to its intrinsic value, which is lower.
If the price is too high, shareholders may see a windfall, but the company may be saddled with debt that is difficult to manage. Finally, an overvalued company may simply be a risky investment. If the stock price falls, shareholders could lose a significant amount of money.
Disadvantages of Overvalued Shares
Being caught in a value trap, by which an investor might incur considerable losses. The requirement of market proficiency to determine whether a stock is overvalued or not.
- Wingstop WING.
- Celsius Holdings CELH.
- Southwest Airlines LUV.
- Vistra VST.
- Dell Technologies DELL.
Fair Value Estimate for Apple
With its 2-star rating, we believe Apple's stock is overvalued compared with our long-term fair value estimate of $160 per share.
Amazon's performance remains strong, with robust earnings and reasonable valuation metrics suggesting the stock is not overvalued.
From a profit perspective, Costco stock trades at a price-to-earnings (P/E) ratio of 47. That valuation is double the average P/E ratio of the S&P 500, which currently sits at 23. It essentially means investors think Costco is worth buying at twice the price of an average stock.
Will a stock go up if it is undervalued?
What happens when a stock is undervalued? Ideally, it's more likely to experience future growth, which could mean capital gains for investors depending on their individual cost basis (or buying price). When a reliable analyst suggests a stock may be undervalued, their opinion could be worth listening to.
Overvalued stocks are shares that trade at a higher price than their real – 'fair' – value. Stocks can be overvalued for different reasons, including decline in a company's financials and sudden increases in buying, normally caused by emotional decisions.
Typically, the average P/E ratio is around 20 to 25. Anything below that would be considered a good price-to-earnings ratio, whereas anything above that would be a worse P/E ratio. But it doesn't stop there, as different industries can have different average P/E ratios.
Thus the percentages on the vertical axis show the over/undervaluation as a percent above mean value, which we're using as a surrogate for fair value. Based on the latest S&P 500 monthly data, the market is overvalued somewhere in the range of 89% to 149%, depending on the indicator, up from last month's 82% to 140%.
As of 2024-02-19, Microsoft Corp's intrinsic value as calculated by the Discounted Earnings model is $292.58. It's currently trading at a price of $404.055. Therefore, the margin of safety based on the DCF model is -38.1%. The company is modestly overvalued.
Price to Earnings Ratio
PE Ratio is one of the metrics used to identify undervalued stocks. The PE ratio compares the current market value of a stock with its earnings per share. Typically, undervalued stocks will have a low PE ratio. Remember that the standard PE ratio differs from industry to industry.
- ITC Ltd. ...
- Asian Paints Ltd. ...
- Sun Pharmaceutical Industries Ltd. ...
- Avenue Supermarts Ltd. ...
- Coal India Ltd. ...
- Varun Beverages Ltd. ...
- Eicher Motors Ltd. ...
- Bharat Electronics Ltd.
The current S&P500 10-year P/E Ratio is 33.7. This is 66.3% above the modern-era market average of 20.3, putting the current P/E 1.7 standard deviations above the modern-era average. This suggests that the market is Overvalued.
When stocks become overvalued it is often called a "bubble." • The worst one day percentage fall of the U.S. stock market was on October 19, 1987.
Berkshire Hathaway, the conglomerate headed by legendary investor Warren Buffett, has the most expensive stock in the world, with shares trading at over $400,000 each.
Which stocks do best during high inflation?
Equities
And some stocks do better than others at fending off inflation. Equities of small-cap, dividend growth, consumer products, financial, energy and emerging markets companies are showing up on many recommended lists.
- The most expensive stock listed on U.S. exchanges is Berkshire Hathaway. ...
- The main difference between Berkshire Hathaway's Class A and Class B shares, aside from their price, is that the Class B shares don't have as much voting power as the Class A shares.
Warren Buffett's holding company Berkshire Hathaway, which owns GEICO and Dairy Queen, sold off about 1% of its stake in Apple in the last quarter of 2023, the company revealed in new SEC filings.
What does that look like on a brokerage statement? Check out the above chart and you'll see that if you invested $1,000 in Apple stock 20 years ago, it would today be worth almost $530,000. The same $1,000 invested in the S&P 500 would have theoretically turned into $6,186 over the same period.
The second takeaway is that Berkshire views Apple as a good value, not necessarily as a growth stock. Berkshire CEO Warren Buffett is a value investor at heart, and Berkshire's overall portfolio is incredibly value-oriented.
References
- https://www.morningstar.com/stocks/top-5-overvalued-stocks
- https://www.bairdwealth.com/globalassets/pdfs/help/important-info-nonrated-or-below-investment-grade-securities.pdf
- https://www.swastika.co.in/blog/why-do-almost-90-people-lost-their-money-in-trading
- https://fastercapital.com/content/Investment-Strategy--Applying-the-Five-Percent-Rule-for-Success.html
- https://www.advisorperspectives.com/dshort/updates/2024/03/04/market-valuation-is-the-market-still-overvalued
- https://www.investopedia.com/articles/investing/052216/4-benefits-holding-stocks-long-term.asp
- https://medium.com/@Levente22/shocking-but-true-90-of-people-lose-money-in-stocks-9da95870cbe8
- https://www.quora.com/How-do-rating-agencies-like-Standard-Poor-or-Moodys-make-their-money
- https://www.investopedia.com/articles/stocks/09/how-interest-rates-affect-markets.asp
- https://www.nfei.org/wp-content/uploads/2020/04/woolbrightthe-stock-market-crash.pdf
- https://smartasset.com/investing/best-investments-for-inflation
- https://www.investopedia.com/terms/a/a-a1.asp
- https://iadclexicon.org/rerating/
- https://www.investopedia.com/terms/p/pricetarget.asp
- https://www.diabetes.ca/resources/tools---resources/body-mass-index-(bmi)-calculator
- https://www.visualcapitalist.com/the-25-worst-stocks-by-shareholder-wealth-losses-1926-2022/
- https://qz.com/warren-buffett-berkshire-hathaway-apple-chevron-stock-1851261489
- https://www.investopedia.com/articles/02/052202.asp
- https://www.nasdaq.com/glossary/s/stock-rating
- https://www.nasdaq.com/articles/2-simple-steps-could-give-you-a-94-chance-of-making-money-in-the-stock-market
- https://www.ig.com/en/trading-strategies/how-to-tell-if-stocks-are-overvalued-210804
- https://www.ig.com/en/trading-strategies/credit-rating-agencies--everything-you-need-to-know-191218
- https://stockanalysis.com/article/analyst-ratings-explained/
- https://www.fidelity.com/learning-center/investment-products/fixed-income-bonds/bond-ratings
- https://www.investopedia.com/articles/investing/101316/how-tell-if-stock-overvalued-or-undervalued.asp
- https://smartasset.com/investing/investing-200-a-month-how-much-will-you-make
- https://www.treasurers.org/ACTmedia/ITCCMFcorpcreditguide.pdf
- https://www.moodys.com/web/en/us/private-credit.html
- https://www.investopedia.com/articles/fundamental-analysis/09/elements-stock-value.asp
- https://groww.in/blog/how-to-find-undervalued-stocks-in-india
- https://primeinvestor.in/re-rating-the-x-factor-in-multi-bagger-returns/
- https://finance.yahoo.com/news/genius-ways-1-000-month-105500970.html
- https://www.investopedia.com/terms/a/averageup.asp
- https://www.investopedia.com/terms/i/investmentgrade.asp
- https://www.quora.com/If-banks-only-insure-up-to-250-000-where-do-rich-people-keep-their-money
- https://www.icicidirect.com/ilearn/technical-analysis/articles/3-technical-indicators-for-the-bearish-market
- https://dictionary.cambridge.org/dictionary/english/rerate
- https://www.forbesindia.com/article/explainers/top-10-companies-india-market-valuation/86307/1
- https://www.forbes.com/advisor/investing/roi-return-on-investment/
- https://www.moodys.com/sites/products/ProductAttachments/Compliance/Exhibit%207/SP13428_Procedure%20for%20Withdrawal%20of%20Credit%20Ratings.pdf
- https://www.moodys.com/sites/products/productattachments/eespecialcomment.pdf
- https://www.kiplinger.com/investing/stocks/invested-1000-in-apple-stock-worth-how-much-now
- https://time.com/personal-finance/article/how-many-stocks-should-i-own/
- https://www.morningstar.com/stocks/after-earnings-is-apples-stock-buy-sell-or-fairly-valued
- https://www.fool.com/investing/2024/01/24/history-costco-stock-overvalued-investors-2024/
- https://fastercapital.com/content/Investors-On-What-Companies-are--Most-Overvalued--And-Why.html
- https://smartasset.com/financial-advisor/where-do-millionaires-keep-their-money
- https://www.investopedia.com/articles/basics/03/060603.asp
- https://www.nerdwallet.com/article/investing/most-expensive-stocks
- https://www.investopedia.com/investing/selling-a-losing-stock/
- https://www.sofi.com/learn/content/when-to-buy-stocks/
- https://www.fool.com/investing/how-to-invest/stocks/how-many-stocks-should-i-own/
- https://tradethatswing.com/average-historical-stock-market-returns-for-sp-500-5-year-up-to-150-year-averages/
- https://www.fool.com/the-ascent/buying-stocks/articles/heres-how-to-tell-if-stocks-are-undervalued/
- https://www.morningstar.com/5-star-stocks
- https://www.wsj.com/articles/what-is-a-stock-rerating-11562637601
- https://www.titan.com/articles/what-happens-if-a-stock-goes-to-zero
- https://upstox.com/learning-center/share-market/top-5-most-expensive-shares-stocks-in-the-world/
- https://www.investopedia.com/terms/o/overweight.asp
- https://www.nirmalbang.com/knowledge-center/high-priced-vs-low-priced-stocks.html
- https://www.sofi.com/learn/content/what-is-an-overweight-stock/
- https://talkmarkets.com/content/how-much-money-do-i-need-to-invest-to-make-3000-a-month?post=431352
- https://finance.yahoo.com/news/art-valuation-discovering-microsoft-corps-110010176.html
- https://www.hindustantimes.com/business/us-billionaires-sell-11-billion-in-stock-what-are-jeff-bezos-mark-zuckerberg-up-to-is-a-financial-disaster-looming-101710144481684.html
- https://primeinvestor.in/stock-rankings/
- https://shabbir.in/pe-rerating-derating/
- https://www.investopedia.com/ask/answers/what-does-investment-grade-mean/
- https://tokenist.com/investing/overweight-stock/
- https://www.cdc.gov/obesity/data/prevalence-maps.html
- https://www.moodys.com/sites/products/productattachments/ap075378_1_1408_ki.pdf
- https://www.linkedin.com/pulse/unveiling-overvaluation-guide-assessing-stock-overvalued-singh
- https://fortune.com/recommends/investing/how-much-of-your-income-should-go-toward-investing/
- https://www.stash.com/learn/what-is-a-good-pe-ratio/
- https://www.adp.com/spark/articles/2023/04/everything-you-need-to-know-about-credit-ratings.aspx
- https://www.quora.com/When-I-lose-money-in-the-stock-market-where-does-that-money-go-Does-it-just-disappear-into-thin-air-or-does-someone-else-get-it
- https://www.nasdaq.com/articles/warren-buffett-led-berkshire-hathaway-sells-some-apple-stock.-should-you
- https://www.investopedia.com/terms/o/outperform.asp
- https://en.wikipedia.org/wiki/S%26P_Global_Ratings
- https://www.livemint.com/market/stock-market-news/beyond-buy-and-hold-is-rotating-stocks-the-secret-weapon-for-portfolio-growth-markets-portfolio-management-investing-11707200670506.html
- https://finance.yahoo.com/news/4-most-popular-banks-millionaires-150054420.html
- https://money.usnews.com/money/retirement/articles/how-can-i-earn-100-200-or-500-per-month-in-guaranteed-income-in-retirement
- https://www.moodys.com/nrsro_sp13418
- https://www.sofi.com/learn/content/good-return-on-investment/
- https://www.fidelity.com/webcontent/ap002388-eresearch-content/19.10.0/research/scorecard/pdf/Equity_Summary_Score_Methodology.pdf
- https://www.investopedia.com/investing/can-you-make-money-stocks/
- https://www.forbes.com/sites/chriscarosa/2023/01/14/at-this-size-your-retirement-portfolio-is-too-big-for-mutual-funds/
- https://www.quora.com/What-happens-when-you-buy-an-overvalued-stock
- https://www.raseedinvest.com/learn/what-does-it-mean-if-a-stock-is-undervalued
- https://www.amot.com/en/blog/what-causes-engine-derating.html
- https://en.wikipedia.org/wiki/Obesity
- https://www.investopedia.com/terms/b/bond-rating-agencies.asp
- https://www.helloplaybook.com/learn/how-much-money-do-you-need-to-live-off-interest
- https://www.spglobal.com/ratings/_division-assets/pdfs/guide_to_credit_rating_essentials_digital.pdf
- https://www.moodys.com/uploadpage/Mco%20Documents/MIS%20Disclosure.pdf
- https://moneyterms.co.uk/rerating/
- https://www.investopedia.com/articles/analyst/03/012103.asp
- https://www.investopedia.com/terms/o/overvalued.asp
- https://www.fool.com/research/how-many-americans-own-stock/
- https://www.kiplinger.com/investing/analysts-top-sandp-500-stocks-to-buy-now
- https://www.investopedia.com/terms/s/strongbuy.asp
- https://www.sofi.com/learn/content/what-happens-if-stock-goes-to-zero/
- https://www.investopedia.com/terms/b/b1-b.asp
- https://www.thestreet.com/amazon/news/jeff-bezos-has-sold-6-billion-of-amazon-stock-is-it-time-to-sell
- https://www.wallstreetmojo.com/undervalued-stock/
- https://www.trading212.com/learn/investing-101/stock-outperform
- https://money.usnews.com/investing/term/overweight-stock
- https://admiralmarkets.com/education/articles/shares/the-best-performing-stocks-in-history
- https://www.financial-spread-betting.com/Underweight-overweight.html
- https://www.investopedia.com/terms/p/portfolio-weight.asp
- https://public.com/learn/how-to-make-sense-of-wall-street-analyst-ratings
- https://www.bankrate.com/investing/low-risk-investments/
- https://www.currentmarketvaluation.com/models/price-earnings.php
- https://www.smallcase.com/collections/undervalued-stocks/
- https://www.realized1031.com/blog/what-is-a-70/30-asset-allocation
- https://time.com/personal-finance/article/how-are-stock-prices-determined/
- https://groww.in/p/overvalued-stocks
- https://www.cdc.gov/obesity/basics/adult-defining.html
- https://www.nasdaq.com/articles/forget-the-4-rule%3A-heres-what-you-should-really-be-looking-at-during-retirement
- https://www.nerdwallet.com/article/investing/average-stock-market-return
- https://www.finra.org/investors/investing/investment-products/stocks/evaluating-stocks
- https://www.investopedia.com/financial-edge/0512/understanding-analyst-ratings.aspx
- https://www.schwab.com/public/file/p-4603911/
- https://poe.com/poeknowledge/1512928000358234
- https://dictionary.cambridge.org/dictionary/english/rerating
- https://www.tipranks.com/glossary/s/smart-score
- https://www.investopedia.com/terms/m/moodys-analytics.asp
- https://corporatefinanceinstitute.com/resources/fixed-income/rating-agency/
- https://www.crowdstreet.com/glossary/equity-multiple
- https://www.moodys.com/termsofuse
- https://www.investopedia.com/articles/bonds/09/history-credit-rating-agencies.asp