The success of an investor depends on proper identification of overpriced toxic stocks and the rightly priced ones. However, the over-bubble stocks and the fairly priced stocks are intermixed in the market place in such a way that it becomes very tough to differentiate between them. Investors who can figure out the toxic stocks and dump them at the right time are likely to benefit.
Usually, toxic stocks are susceptible to external shocks and are burdened with huge amount of debt. Moreover, the price of the toxic stocks is unjustifiably high. The irrationally high price of the toxic stocks is only short-lived as the intrinsic value of these stocks is lower than the current bloated price.
The high price of the toxic stocks can be attributed to either an irrational exuberance associated with them or some serious fundamental drawbacks in the stock. If you own such stocks for a long stretch of time, you are likely to witness huge erosion in your wealth.
On the other hand, if you can 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, identifying toxic stocks and disowning them at the right time is the key to shield your portfolio from big losses. Profits can be made by short selling them.
Screening Criteria
Here is a winning strategy that will help you to identify overpriced toxic stocks:
Most recent Debt/Equity Ratio greater than the median industry average: High debt/equity ratio implies high 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 and the next fiscal year 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.
Here are five of the 16 toxic stocks that showed up on the screen:
Live Nation Entertainment, Inc. (LYV – Free Report) is a Beverly Hills, CA-based live entertainment company. Over the past 30 days, its second-quarter 2017 estimates have declined 5.9% to 16 cents a share. The stock currently has a Zacks Rank #3. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
NeoGenomics, Inc. (NEO – Free Report) is a Fort Myers, FL-based company belonging to the biomedical and genetics industry. Over the past one-month period, second quarter estimates declined from 2 cents per share to a penny. The stock currently has a Zacks Rank #4 (Sell).
Salesforce.com, inc. (CRM – Free Report) is a San Francisco, CA-based computer software firm. Over the past one month period, its current quarter earnings estimates have remained unchanged at 9 cents a share. Currently, the company carries a Zacks Rank #3.
Oklahoma City, OK-based Paycom Software, Inc. (PAYC – Free Report) is an internet software industry firm, which provides cloud-based human capital management software solutions. Over the last 30 days, quarterly estimates have remained unchanged at 13 cents per share. Currently, the company carries a Zacks Rank #3.
Covanta Holding Corporation (CVA – Free Report) is a Morristown, NJ-based alternative energy company that provides waste and energy services in the U.S. and Canada. Over the past 30 days, its second quarter estimates have remained unchanged at a loss of 17 cents per share. The company has a Zacks Rank #5 (Strong Sell).
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