Maybe You Should Avoid These 2 Stocks
With the market pushing all-time highs and uncertainty everywhere, it could be time to take some money off the table. That said, we Fools all have our own opinions (that's what makes us Motley), so you may think otherwise.
Nonetheless, in my opinion some companies currently look overinflated on a valuation basis. This is not necessarily a problem, but in times of uncertainty, stocks trading at high valuations tend to be the ones that fall the fastest.
Even if you disagree, it's always good practice to consider both the bull and bear arguments for your investments.
A great year so far
One company that has had a staggeringly good 2013 is Pioneer Natural Resources . Pioneer's share price has risen around 73% year to date, but at these levels the company looks overcooked.
One of the reasons Pioneer has been bid up during the past 11 months is the company's impressive production growth. In particular, at the end of the second quarter Pioneer announced that yearly production growth would be in the region of 14% to 16%. However, this growth lags that of larger peer EOG Resources , which is targeting yearly production growth of 35%. Further, EOG is a larger and more diversified company than Pioneer.
Given EOG's advantages, you might naturally expect it to trade at a premium to Pioneer. However, Pioneer is priced at 32 times forward earnings, while EOG has a forward P/E of 23. Moreover, Pioneer's closest peers by market capitalization, Noble Energy and Marathon OilCorporation,trade at forward earnings multiples of 18 and 12, respectively. Additionally, if we calculate an average forward P/E of the independent oil and gas sector, using data supplied by FinViz.com, we can see that the average forward earnings multiple of the 10 largest companies in the sector is 16.4.
However, it begs asking: Why has Pioneer shot higher over the past year, and what do investors see in the company? Well, investors appear to be salivating at the prospect of the company's Wolfcamp oil field being one of the biggest oil fields in the world, with many billions of barrels in place. Still, there is some risk here. The field could turn out to be smaller than expected, and this would really damage the company's potential.
Personally, I like to invest based on what I know for sure -- not what might be. With Pioneer, I know that the company's production growth lags that of its close peer and that the company is relatively expensive. Overall, based on Pioneer's premium and the gains it has made this year, maybe it's best to avoid the company for now.
Too far too fast
Another company that could be a good one to avoid is US Steel . I have been a fan of US Steel in the past; the company has traded below book value for most of this year and remained cash-flow positive.
However, the company's stock price has recently risen beyond the book value per share. What's more, this rise has come despite the fact that profitability remains elusive for the company as large noncash charges, such as depreciation and writedowns, continue to consume a significant portion of income.
In addition, the U.S. steel market in general is softening. In particular, according to MEPS International, a leading independent supplier of steel-market information, a combination of rising import volumes and rising domestic output could result in oversupply in the market in the near future. This would put downward pressure on steel prices. Indeed, MEPS is already predicting that steel prices will trend lower over the next few months after several months of rising prices.
However, credit rating agency Moody's recently upgraded its outlook on the U.S. steel industry from "negative" to "stable." This could be a reason for investors' positivity.
Still, short interest in US Steel expanded nearly 10% during the first two weeks of October, taking total short interest to 30.7% of the company's float. While this is not indicative of future performance, it does warrant a closer look at the stock's prospects.
So overall, based on a combination of factors, US Steel and Pioneer look to be overvalued at current levels. The domestic steel market within the U.S. has not yet fully recovered from the financial crisis, while the recent rise in U.S. Steel's stock price indicates that it has.
Elsewhere, Pioneer is now trading at a premium to its peers, and this should not be the case, especially considering that EOG is forecast to ramp up production by 30% during this year.
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The article Maybe You Should Avoid These 2 Stocks originally appeared on Fool.com.
Fool contributor Rupert Hargreaves has no position in any stocks mentioned. The Motley Fool owns shares of EOG Resources. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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