Remember when Elon Musk said he was fielding offers to take Tesla Inc. (NASDAQ:TSLA) private at $420, and everyone laughed? Here, the stock is at $900 and only the short sellers are crying.
And it isn’t alone. Virgin Galactic Holdings Inc. (NYSE:SPCE) was dead money last year. Now it has tripled in value since Dec. 31.
Richard Branson’s orbital brainchild is tracking $4 million in annual revenue and probably bled nearly $200 million in cash. Yet on paper, the stock is worth close to $7 billion.
While I don’t hate the company, for people who are worried about a market crash or a bubble bursting, it’s got to be Exhibit A.
Just don’t leap to conclusions. SPCE and TSLA probably aren’t signaling a broader bubble that’s waiting to explode.
Overheated Stocks, Smooth Sailing
Start with Tesla. Musk’s electric car company has rallied 115% in the last seven weeks, obliterating all previous price ceilings in the process.
It now commands a steep 112X earnings multiple, assuming of course, that Tesla maintains its somewhat tenuous grip on profitability at all.
I am not bullish on the stock. Love or hate Musk and his cars, I just don’t see the point of buying in when the near-term execution risks still stack up almost as high as the long-term potential.
The Wall Street consensus agrees. The average target on TSLA is barely $500, which implies a harrowing 45% downswing before we see fair value.
But a stock in motion tends to remain in motion until something gets in its way. TSLA has climbed all known walls of worry, effectively achieving escape velocity.
One day, the bulls will run out of fuel and gravity will take over. For now, enough hype is circulating to keep hope alive …and for every analyst who argues TSLA is worth $200, there’s another one pounding the table for $7,000 five years from now.
The math bends. SPCE is a similar, but more extreme, case, with people crowding into the stock because they’re hungry for a pure play on the orbital frontier and can’t find it anywhere else.
The real players in the U.S. Space Force will be big aerospace names like Boeing Co. (NYSE:BA), but because these gigantic contractors are so much more than shuttles and rockets, the math gets diluted.
And not coincidentally, Elon Musk has his own launch company. He has orbital fever too. Unfortunately, until SpaceX goes public, retail investors are shut out.
The fever builds. Money crowds into a limited number of opportunities. The stocks go ballistic. What goes up ultimately comes down.
The rest of the market continues on its usual trajectory. That’s what really excites me right now.
Remember, SPCE and TSLA are just two stocks out of the 5,000 that are currently listed on Wall Street. Two stocks don’t add up to a bubble.
And there are still plenty of bargains out there if you know where to look and can resist the siren song of hype.
Far From Bubble Conditions
Only about 10% of the market has jumped as much as 20% year to date (YTD). As you raise the performance bar toward triple-digit percentage levels, the numbers get even more rarefied.
After all, the S&P 500 as a whole has only edged up 2% in the face of the big rallies. The vast majority of stocks are still benefiting from low interest rates and a strong economy.
They’re just moving at a much more reasonable rate, and reasonable upside is built into the market’s history. We expect stocks to move 1-2 percentage points a month simply because the economy is still expanding.
That pulse of growth is alive now. Earnings for the S&P 500 as a whole are finally higher than they were a year ago. There’s fundamental justification for stocks to rise.
And while the market is a little rich by historical standards, we aren’t looking at the stratospheric valuations that SPCE and TSLA currently demand new investors to pay.
The S&P 500 is worth 19X forward earnings or about 24X on a trailing earnings basis now. That’s roughly what I saw in early 1998.
Back then, the S&P 500 carried a 24X trailing multiple and the economy kept expanding fast enough to support those valuations for another 31 months.
Running to the sidelines when the market hit that 24X multiple cheated investors out of a 54% return. And we’re far from the historical top here.
In 1999, the market made it to a full 34X trailing earnings before the bubble started to leak. Doing the math implies that the S&P 500 won’t strain the historical limits until it’s a lot closer to 5,000.
Would you want to miss a trip to the S&P 5,000 just because Elon Musk is too popular for comfort? Either way, my Value Authority service avoids all the froth. We’re all about buying hard numbers at good prices.
And if you’re looking for a way to simply ride the waves, High Octane Trader has been doing well shorting obviously overheated stocks as well as using options to magnify the ambient market heat.
CANNABIS CORNER: THE SHAKEOUT BEGINS
Now that the leading players have acknowledged that the first phase of the cannabis boom has hit a limit, there’s a sense of mingled relief and resignation in the industry.
The giants like Aurora Cannabis Corp. (NYSE:ACB) are getting a bit of a bounce. They’ve acknowledged that the old euphoric math is broken and are making the tough calls to change course.
But quite a few of the small cannabis stocks are now in a difficult position. They jumped into the space to capture a bit of what looked like a spectacular opportunity, but never achieved anything more than niche stature.
It’s easy to be an ambitious start-up in a fragmented landscape where anyone with the right ideas, products, expertise and luck can become a champion. This late in the cycle, we’re seeing more than a few players leave the field.
Just a quick look at my cannabis screen reveals a lot of relatively obscure companies, such as Grow Capital Inc. (OTCMKTS:GRWC), that are pivoting to new business models.
GRWC wanted to get into cannabis tourism in Nevada. Now, the company has since unwound that effort to concentrate on financial technology instead.
These are signs that a healthy consolidation is underway. Shaking out fringe operations will feed market shares back to the entrenched giants. Companies like ACB will stretch farther.
Indeed, this was always the outcome I projected. You simply do not see an industry remain this fragmented for long, especially when so many of the products are essentially interchangeable.
Anyone with the right license can grow a plant and sell it for a fixed retail price. That’s commodity economics, which always favor scale. The bigger you are, the better you can survive by undercutting smaller competitors.
Those small competitors are going away now. And those that are still in the game are working harder than ever to find ways to differentiate themselves in the market.
Will they succeed? The most interesting names will make it into my IPO Edge portfolio and we’ll reap the rewards of their innovation over time.
Some have distinctive niche business models that don’t fit into the commoditized Canadian wholesale approach that companies like ACB have taken. They’re pursuing retail opportunities, business-to-business services and new geographical footprints.
Others are simply trying to reinvent the commodity wheel by adding value. They’re engineering new strains, new packaging and new products in order to stand out.
I think that’s where the real sizzle is coming. But before we get to Cannabis 2.0, a lot of me-too stocks that aren’t going to succeed with 1.0 models need to clear the field.
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