The S&P 500 is on fire at the moment on the heels of an excellent earnings season. It seems that nothing can stop the current bull run as the markets have proved very resilient. But some are still sounding the alarm that a steep market correction is near, which means it is the right time to discuss overvalued stocks you should sell.
Before you roll your eyes at this latest prediction, it is worth noting that the latest forecast comes from an investment banking giant.
In September, Morgan Stanley (NYSE:MS) strategists led by Michael Wilson said that while it’s still the worst-case scenario, evidence points to weaker growth and falling consumer confidence that may result in a drop of more than 20% in U.S. stocks.
Recent results did not confirm the thesis. However, the company has come out with a fresh note that reaffirmed the bearish narrative. Potential interest rate hikes and inflation fears mean you still cannot ignore these calls.
Morgan Stanley Wealth Management Chief Investment Officer Lisa Shalett believes retail investors are maintaining the momentum. These newbie traders are committed to “buying the dip,” no matter the circumstances.
Nevertheless, softening market liquidity and tightening financial conditions mean investors need to double-check their portfolios and ensure they are not carrying any overvalued stocks.
Here are seven growth-oriented stocks that could suffer in case of a steep market correction:
- Netflix (NASDAQ:NFLX)
- Lululemon Athletica (NASDAQ:LULU)
- Square (NYSE:SQ)
- Align Technology (NASDAQ:ALGN)
- Sherwin-Williams (NYSE:SHW)
- Wipro (NYSE:WIT)
- Tesla (NASDAQ:TSLA)
Stocks to Sell: Netflix (NFLX)
Netflix was first established as a service for renting DVDs by mail. They quickly adapted to the changing landscape of video entertainment, morphing into one of America’s largest online streaming platforms and likely even the world’s most popular subscription video on demand, or SVOD, provider today.
While it is dominating the competition and enjoying the top spot, there are concerns regarding rising oversaturation. It is already the largest SVOD in America. But now, most of its subscribers are based outside of the U.S., which means they have to tweak their strategy a bit.
Meanwhile, Disney+, WarnerMedia, and other large firms have launched their SVOD platforms to compete against Netflix. As the competition ramps up and they have to spend more money to secure their numero uno status, profits will suffer.
The content creation business also requires you to keep spending money and resources to attract eyeballs. Although it has worked for Netflix in the past, with so many options now, it seems they will have to fight tooth and nail for market share from hereon in.
Lululemon Athletica (LULU)
Workout apparel retailer Lululemon is on a tear. The shares have a five-year return of 659.3%, and the company has surpassed earnings estimates in the last 10 out of 12 quarters, according to CNBC data.
Although several companies suffered because of the pandemic last year, Lululemon had a decent showing. Things picked up in the fourth quarter, but the recent quarterly results reveal exemplary growth meaning the rebound is well and truly in full flow.
The most important thing, though, was the acquisition of Mirror, which is a revolutionary new fitness device that claims it could change the way people work out. The streaming system offers classes from top instructors on an easy-to-use interface. Lululemon paid $500 million for the purchase, showing how much value it places on the brand.
“Mirror is uniquely positioned as your at-studio, at-home device,” said CEO Clavin McDonald during Yahoo Finance’s All Markets Summit. “I’m confident that the hybrid fitness strategy will work. We’re well positioned with the product.”
More recently, Lululemon reported net revenue of $1.5 billion, a year-on-year jump of 61%. Income from operations rose 134% to $291.0 million.
Adjusted income from operations was $299.2 million, an increase of 120% from the year-ago period. Adjusted diluted EPS finished at $1.65 compared to $0.74 a year ago.
Stocks to Sell: Square (SQ)
Square did very well last year. Shares of the digital payments company have a one-year return of 56.4%.
It is understandable why the company did so well. The surge in digital payments and e-commerce was unprecedented last year.
It naturally had a knock-on effect on the company. However, one of the main reasons for the positive price momentum is its Bitcoin (CCC:BTC-USD) trading operation.
Square’s core payments business grew by just a single digit in 2020. Again, this is unsurprising because Square focuses on servicing small businesses. They did not do very well last year due to the pandemic. Hence, the crypto business became Square’s saving grace.
With its core business struggling, and the company getting little in the way of profits for its bitcoin business, Square becomes one of the foremost stocks to sell before a price correction.
Align Technology (ALGN)
At one point, Align Technology had a practical monopoly on clear aligners due to their patent protection. However, since 2017 many competitors have come onto the market and put pressure on prices and the availability of products.
A company known for its teeth-straightening system has faced intense competition from other companies that provide similar services at lower costs or without any associated patents.
This situation may lead some consumers interested in this product type towards going with another alternative instead, which could result in fewer sales overall if not properly managed.
Align is still up an impressive 43.8% over the last year despite the recent dip in sales.
The dental company’s success can be attributed largely to its marketing efforts which have helped them find new customers and bring back old ones after the pandemic shut down many practices for months, but we are several months into reopenings.
Therefore, the increase in profits will start to level off in the forthcoming quarters.
Stocks to Sell: Sherwin-Williams (SHW)
Sherwin-Williams is one of America’s most well-known paint brands, with an extensive retail network.
As DIY projects became more popular last year, many people turned towards Sherwing because of the unique nature of the pandemic.
However, two things are working against the stock. For one, the stock is now trading at dizzying price multiples, 49.7 times forward price to earnings. Paying that high of a premium for a paint and coating manufacturing company is outrageous, especially considering the kind of market that we are in.
The other major issue the company is facing is supply chain disruptions. Sherwin-Williams entered its fiscal third-quarter optimistic that supply chain issues and soaring raw material costs would ease.
Instead, these problems have gotten worse, resulting in a lower outlook for full-year earnings. To add insult to injury, Sherwin’s raw material costs are sky-high and will continue to rise moving forward. Sherwin expects this year, their prices for materials will increase by a high teens percentage, which will weigh down its margins.
On the bright side, Sherwin-Williams is purchasing Specialty Polymers. The company manufactures water-based polymers, and it’s been their long-time supplier with $112 million in sales last year.
Considering the company is suffering because of supply chain issues, vertical integration might be the penicillin needed.
Wipro is an Indian IT consulting and system integration services company that has done very well due to the business environment over the last few decades.
IT outsourcing became a popular business tool from the 1980s onwards to reduce time, energy, and resources on tedious repetitive tasks. Offices can outsource their needs for project management or even just data entry without sacrificing quality control by partnering directly in this area.
However, things are changing.
It is difficult to know the effects of outsourcing on unemployment rates. While some researchers believe it can lead to more jobs, others are concerned about lost opportunities at home, but it erodes customer loyalty.
When customers are outsourcing their customer support or technical issues, it can hurt the company’s image. When people hear a foreign accent answer calls to American companies, they may lose trust in that business and blame them for creating more jobs outside of America instead of keeping these positions at home.
There is also the small matter of automation, which will eliminate many of the jobs that Wipro performs for overseas clients. It will not happen overnight. However, this is a secular trend working against the Indian tech giant.
Wipro’s long track record of underperformance suggests that even with a sound strategy, execution may still be an issue for them. That’s why it becomes one of the top stocks to sell.
Stocks to Sell: Telsa (TSLA)
Does anyone know what Tesla’s worth?
Tesla is an electric vehicle company founded in 2003 by Elon Musk to change transportation as we know it.
As one can imagine, they’ve had their fair share of controversy over the divorce between valuation and fundamentals.
Tesla’s autonomous driving features and the company’s small stationary power storage business should be commended. The electric vehicle manufacturer also continues to set records with every quarter consolidating its position at the top of the food chain.
However, things need to be put into context. General Motors sold about 6.8 million vehicles. Tesla did half a million. Yet, the market caps of the two enterprises are poles apart.
Analysts are struggling to value Tesla because its growth rate is so much faster than traditional car companies have seen in generations. Plus, the technology Telsa is working on is revolutionary. Again, it is tough to put a price tag on it.
However, no one can definitively say the stock is trading at fair value despite all these factors. If a market correction takes place, TSLA and other growth-oriented stocks of the ilk can suffer. It’s not often Tesla makes it onto a list of stocks to sell, but it’s wise to take profits with this one and look for better investments at this time.
On the publication date, Faizan Farooque did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
Faizan Farooque is a contributing author for InvestorPlace.com and numerous other financial sites. Faizan has several years of experience analyzing the stock market and was a former data journalist at S&P Global Market Intelligence.