5 High P/E Stocks to Watch for Correction

William is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Sometimes it pays to watch stocks with high P/E ratios. Influenced by some negative macroeconomic statistic or a company’s miss on consensus estimates, investors in these expensive stocks (trading at a high price to earnings multiple) tend to scare more easily. However, the upside could be a better entry point for opportunistic investors. The five companies below fit those criteria.

<table> <thead> <tr><th> <p><strong>Company</strong></p> </th><th> <p><strong>P/E(TTM) Ratio*</strong></p> </th></tr> </thead> <tbody> <tr> <td> <p><strong>Chipotle Mexican Grill </strong><span class="ticker" data-id="207668">(NYSE: <a href="http://caps.fool.com/Ticker/CMG.aspx">CMG</a>)</span><strong></strong></p> </td> <td> <p>37</p> </td> </tr> <tr> <td> <p><strong>NVR </strong><span class="ticker" data-id="204774">(NYSE: <a href="http://caps.fool.com/Ticker/NVR.aspx">NVR</a>)</span><strong></strong></p> </td> <td> <p>29</p> </td> </tr> <tr> <td> <p><strong>Lumber Liquidators</strong> <span class="ticker" data-id="216837">(NYSE: <a href="http://caps.fool.com/Ticker/LL.aspx">LL</a>)</span></p> </td> <td> <p>36</p> </td> </tr> <tr> <td> <p><strong>SodaStream </strong><span class="ticker" data-id="224627">(NASDAQ: <a href="http://caps.fool.com/Ticker/SODA.aspx">SODA</a>)</span><strong></strong></p> </td> <td> <p>23</p> </td> </tr> <tr> <td> <p><strong>Tractor Supply</strong> <span class="ticker" data-id="205811">(NASDAQ: <a href="http://caps.fool.com/Ticker/TSCO.aspx">TSCO</a>)</span></p> </td> <td> <p>27</p> </td> </tr> </tbody> </table>

*Source: Yahoo! Finance; accurate as of March 2

In the middle of 2012 after reaching a high of around $440 per share and a P/E ratio of 58, the stock price of Mexican restaurant Chipotle Mexican Grill fell off a cliff, declining 40%+ over the next seven months after its earnings disappointed Wall Street. Since bottoming out in October 2012, Chipotle gained roughly 28% (see chart below).The market recently showed cheer around its increase in revenue and earnings of 20% and 29%, respectively.

<img alt="" src="http://media.ycharts.com/charts/da71906b3b3dd8bf611c14bb713a943a.png" />

CMG Total Return Price data by YCharts

Chipotle gave a very cautious outlook for 2013, most notably that comparable store sales (sales in stores open longer than a year) will increase from “flat to low single digits” for the year. If comparable store sales decline the least bit, or if the company lowers its guidance, the stock price will likely collapse. On the upside this would give investors a chance to buy into an expanding company with no long-term debt and cash representing 20% of its stockholder’s equity.

The stock price of the next two companies, homebuilder NVR and hardwood flooring retailer Lumber Liquidators, benefited greatly from the fervor surrounding the housing market.

In 2012, NVR increased its revenue and earnings 20% and 40%, respectively, due to increased housing construction. Since January 2012 when the housing market started showing signs of improvement, NVR’s share price increased 45% (see chart below).

<img alt="" src="http://media.ycharts.com/charts/d69a39b16a7ffb08348fc4a59d16193e.png" />

NVR Total Return Price data by YCharts

Lumber Liquidators revenue and net income increased 19% and 79%, respectively, in 2012, due mainly to increases in sales volume of its flooring material and efficiency in purchasing and distribution. Since the start of 2012 Lumber Liquidators increased an incredible 246%.

<img alt="" src="http://media.ycharts.com/charts/b58d9adc2edc5a318e93f0a164de7a71.png" />

LL Total Return Price data by YCharts

Current housing data seems to satisfy Wall Street when it comes to NVR and Lumber Liquidators. However, any bit of negative data could send these stocks into a tailspin.

In 2012, homemade soda machine and accessories maker SodaStream increased its revenue and earnings 51% and 60%, respectively.

The market risk for SodaStream needs to come down a bit to compensate for fundamental uncertainty. Its stock price gained 21% over the past year giving it a P/E ratio of 23 (table above). SodaStream currently experiences growing pains as it struggles to meet demand through an inefficient distribution system. SodaStream currently plans to utilize internal and external funds to build a distribution center in Israel, which management estimates will add 200 basis points to its gross margin. SodaStream’s appeal as an investment will increase greatly if the stock price of this company corrects further.

<img alt="" src="http://media.ycharts.com/charts/7ee7822fe9b7fc952da62ce3afdd3e38.png" />

SODA Total Return Price data by YCharts

Tractor Supply, a store that caters to recreational farmers and ranchers, increased its sales and earnings 10% and 24%, respectively, in 2012. The company credits the ability to stay on top of trends in the business as the primary catalyst for its growth. Also, its consumable products such as pet and animal food posted solid gains. Over the past year the stock price increased 20% (see chart below). A good correction in this company’s stock price will increase its investment appeal.

<img alt="" src="http://media.ycharts.com/charts/914e045df45f57363226fa196882b190.png" />

TSCO Total Return Price data by YCharts

Conclusion

On the whole, many storms lie on the macroeconomic horizon. Elections in Italy, political posturing here in the States, continued drought, and possible continued and deepening of recessions in China and Europe could cause the overall stock market to correct with high P/E stocks suffering more than the broader market. In addition, microeconomic factors such as earnings decline or an earnings increase failing to meet expectations could also cause the price of the above companies to fall. If this happens, take advantage of the opportunity to buy in to these great businesses at a lower price.


William Bias has no position in any stocks mentioned. The Motley Fool recommends Chipotle Mexican Grill, Lumber Liquidators, and SodaStream. The Motley Fool owns shares of Chipotle Mexican Grill, Lumber Liquidators, and SodaStream. 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. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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