The last week has been a good one for equity investors, with several important data points being released. The stocks started the week with a boost from Ben Bernanke. On Monday, the Federal Reserve Chairman suggested that the Fed is devoted to a stronger economy and considers it as a priority target. The following day, stocks showed a mediocre performance, as consumer confidence index showed no surprise. Due to the disappointing durable goods data, equities suffered losses on Wednesday. But markets bounced back from these losses, and stocks wrapped up a stellar quarter by the end of the week. When we look at the sectors, healthcare stocks were the top performers, followed by consumer companies and utility stocks. Only basic material and financial stocks disappointed their shareholders with negative returns.
Amidst this bullish atmosphere, several stocks made it to new highs in the past few weeks. A stock is usually considered overbought when the relative strength index reaches above 30. That does not mean that these stocks are expensive stocks. I would rather consider them momentum stocks, supported by short-term catalysts. Nevertheless, overbought stocks signal a red flag for contrarian investors.
Based on the Relative Strength Index [RSI] indicator, I noticed five highly liquid stocks that are in the overbought territory. Let's see what is driving these stocks, and whether they are still worth considering after making significant gains recently.
Cisco (CSCO) - Hold
Yield: 1.51%
Year-to-date Return: 17.37%
RSI: 70.48
Cisco is among the most widely followed stocks in the market. At the peak of techno-bubble, the stock was valued for as much as $500 billion. The current market cap of $114 billion suggests that Cisco's long-term holders experienced devastating losses since the burst of this bubble. However, the stock is on the move. It returned almost 50% in the last 9 months.
Click to enlarge graphs below:
(Source: Finviz)
Established in 1984, the San Jose, California-headquartered Cisco has a great moat in its field. The company has strategic alliances with several other industry giants. Its earnings increased by almost 50% in the last quarter, and analysts estimate an earnings growth of 9.40% in the next 5 years. Based on this estimate, my FED+ valuation range is $23 - $32. At the current prices, the stock is close to fair value range. Therefore, I rate it as a hold for the moment.
Pfizer (PFE) - Hold
Yield: 3.89%
Year-to-date Return: 5.74%
RSI: 72.65
Established drug manufacturers tend to offer generous yields, and Pfizer is no exception. The company offers a yield of 3.89% supported with a payout ratio 71%. The company was able to boost its earnings by 9% in this year, and the stock has returned about 5.74%, since January.
(Source: Finviz)
Established in 1849, the New York-headquartered Pfizer is among the biggest pharmaceuticals in the world. Pfizer is the producer and distributor of several well-known drugs such as Celebrex, Lipitor, Premarin, and Viagra. Thanks to the success of its broad product line, the company was able to generate a net income of $8.70 billion in the last year alone. Based on a modest growth estimate of 3.8%, my FED+ fair value range is between $20 and $30 per share. At the current valuation, the stock is trading within this range. Therefore, I rate it as a hold.
JPMorgan (JPM) - Hold
Yield: 2.61%
Year-to-date Return: 39.29%
RSI: 70.77
JPMorgan is among my favorite financial stocks. Unlike other big banks, the company did not need any bailout during the sub-prime crises. It consistently rewards shareholders through nifty dividends. The current yield is 2.61%. Last year has been a very bad one for financial stocks. JPMorgan was also negatively affected from the gloomy news from the eurozone, and the stock lost near 50% of its market cap. However, along with other financials, JPMorgan is on the move this year. It has returned almost 40% since January.
(Source: Finviz)
I think of JPMorgan as one of the safest plays among the big banks. At a trailing P/E ratio of 10.29, and forward P/E ratio of 8.38, the stock still looks like a cheap deal. However, given the inherent risks in this sector, financials rarely trade with double-digit ratios. Besides, after making their home run, shares need to cool off a bit. The current price does not look like a cheap entry level. Therefore, I rate it as a hold.
Philipp Morris (PM) - Sell
Yield: 3.48%
Year-to-date Return: 13.91%
RSI: 79.03
Phillip Morris is one of the largest cigarette producers in the world. The company has several well-known brands in its portfolio. Marlboro, Parliament, Muratti, Lark, and Chesterfield are among the several cigarette brands offered by Phillip Morris. The company also established strong alliances with several local cigarette companies. Thanks to its increasing profits, it has been a great hold in the last 3 years. Since its dip of $30 in 2009, the stock returned 200%. This year has also been a good one for the shareholders so far.
(Source: Finviz)
I think Phillip Morris has a great moat in international markets. However, its future prospects are more than fairly priced by the market. The trailing P/E ratio of 18.27 is well-above market average. The debt is also a significant issue, and the company does not hold any significant book value. Thus, the downside risk outweighs the upside potential. Therefore, I rate Phillip Morris as a sell.
The Coca-Cola Company (KO) - Sell
Yield: 2.76%
Year-to-date Return: 6.55%
RSI: 87.12
Coca-Cola, a Warren Buffett favorite, is also among my favorite stocks. Established in 1886, the Atlanta-headquartered Coca-Cola has become synonymous with its product. It is a truly global company with strong presence all around the world. The stock has been a long-term outperformer, but it recently got into extremely overbought territory.
(Source: Finviz)
Looking at the most recent news, I do not see any catalyst for the stock's recent move. Analysts estimate an annualized EPS growth of 8.40% for the next 5 years. This is a reasonable estimate given the company's past performance. Based on this estimate, my FED+ fair value range is $56 - $70. At the current prices, the stock is overvalued. UBS also agrees with me as it has a target price of $70. Therefore, I rate Coca-Cola as a sell.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.
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