Investors often look at bear market declines as buying opportunities. Indeed, today’s market environment allows investors to buy high-quality stocks at a significant discount.
However, not every stock that falls in a bear market is a bargain in waiting. Many companies suffered as the downturn exposed major flaws, and some of these weaknesses may prevent the underlying stocks from recovering anytime in the foreseeable future. Investors may want to rethink their positions in the three stocks described below.
Nvidia is a fine company, but the stock might underwhelm
Justin Pope (Nvidia): Semiconductors are becoming increasingly important in a world that is ever more reliant on technology. Nvidia (NVDA 6.41%) plays a key role; it is an industry leader in graphics processing units (GPUs), used in applications from gaming to cryptocurrency mining, data centers, automotive, and artificial intelligence (AI) — all growing industries today.
But Nvidia’s hardly a secret on Wall Street; it’s one of the world’s largest semiconductor companies, with a $435 billion market cap. The stock has minted millionaires, delivering more than 5,000% in price returns over the past decade. However, the stock’s future potential does not seem as promising. Despite a nearly 50% decline from highs, the stock’s price-to-earnings ratio (P/E), which values the stock on its profits, is still well above its average over those 10 years when it generated such remarkable returns.
NVDA PE Ratio data by YCharts
On top of being a massive company trading at a lofty valuation, the short-term economic environment could further dampen Nvidia’s returns. Semiconductor stocks can be sensitive to the economy, and rapidly rising interest rates could put the global economy into a recession in 2023. In that case, demand for semiconductors could stall, which would hurt Nvidia’s business. Revenue already declined 17% year over year in the quarter ending Oct. 30 and is something to watch.
Analysts believe Nvidia’s earnings per share (EPS) will grow by an average of 12% annually over the next three to five years. That’s nothing to scoff at, but is it enough to satisfy Wall Street? Given the premium valuation placed on the stock, it may not be.
A bear market brings out great long-term investment opportunities. Nvidia is a great businessbut the stock isn’t a slam-dunk opportunity at this price. Don’t be afraid to look elsewhere.
Competition frayed the threads of this AI-driven clothing seller
Will Healy (Stitch Fix): Stitch Fix (SFIX 8.96%) looked poised to lead an emerging area of e-commerce. It sought to use data science and styling consultants to help customers determine their style and send them clothing matching those preferences.
Stitch Fix launched its initial public offering (IPO) in November 2017, debuting at $15 per share. But after spiking to nearly $114 per share in early 2021, it fell below its IPO price by early 2022. Today, it sells for less than $5 per share.
So what went wrong? For one, Stitch Fix turned from profits to losses in fiscal 2020 (which ended Aug. 1 of that year) and profitability never returned. And although operating income was positive before that time, it peaked in 2016, indicating that increased revenue has not improved its financial picture.
Its revenue for the fiscal first quarter of 2023 (which ended Oct. 29, 2022) came in at $456 million, down 22% year over year. And the $56 million in quarterly losses should concern investors since Stitch Fix held only about $203 million in liquidity.
Moreover, competitive moats are rare in the clothing business. Yes, its expert and data-driven styling business holds the potential to drive customer interest. However, Stitch Fix offered little incentive to keep customers once they learned their personal style.
Furthermore, with Amazon‘s personal shopper service copying its model, Stitch Fix’s small competitive moat narrowed further. Amazon also offers a wide selection of items, strong AI capabilities, and deep pockets, making it easier for it to respond to any potential competitive threat.
Admittedly, Stitch Fix appears cheap based on its stock price and P/S ratio of 0.25. Also, founder Katrina Lake, who relinquished day-to-day duties in 2021, has returned as interim CEO amid a restructuring.
Some investors may see Lake’s return as a first step in its turnaround. But without a competitive moat or obvious path to profitability, Stitch Fix may struggle to survive, let alone return to its IPO price.
There are better ways to profit from a tech rebound than this tech relic
Jake Lerch (International Business Machines): When it comes to International Business Machines (IBM 0.41%)investors have been waiting for a comeback for a while — a very long while.
And while Big Blue didn’t plummet in 2022 like many of its tech peers, it hasn’t lit the investing world on fire either. Shares are up 5% over the last year — but down about 24% over the last decade.
Indeed, investing in IBM shares feels much like Charlie Brown lining up to kick the football. You hope the ball isn’t pulled away at the last moment, even though, in your heart, you know it’s coming. Over the last decade, IBM pursued numerous shifts in strategy and leadership, but, in the end, the company’s financial fundamentals look remarkably unchanged — if not worse.
Revenue actually declined from $100 billion in 2013 to $61 billion today. Net debt has increased from $21 billion to $44 billion. Meanwhile, free cash flow and free-cash-flow yield are at the lowest levels in a decade.
IBM Free Cash Flow data by YCharts
Granted, much of this is due to the company’s latest attempt to reinvent itself as a significant player in the cloud computing and artificial intelligence markets. And it must be said that the company has paid, and continues to pay, a hefty dividend that currently yields 4.5%.
Nevertheless, IBM faces unique challenges, particularly when compared to many of the alternatives in the tech sector. Rising interest rates will make its high debt load more burdensome. Big dividends are great but handcuff management by eating away at the company’s free cash flow.
So, I’d suggest passing on IBM if you’re an investor looking to cash in on a tech rebound.