The stock market has enjoyed a surprising rally to start 2023. The Nasdaq Composite is up by almost 30% year-to-date; many stocks have jumped alongside it. While this price movement has rewarded long-term investors, it has resulted in many overvalued growth stocks.
Holding onto reliable stocks can yield long-term returns, but investors endure weeks and months of declines along the way. Even long-term investors should reassess their portfolios from time to time. Occasional portfolio reviews help investors spot overvalued stocks and make decisions that align with their long-term objectives.
Some companies have exhibited strong gains to start the year, but investors may be wise to take profits on these three growth stocks.
Overvalued Growth Stocks: Meta Platforms (META)
Meta Platforms (NASDAQ:META) has more than doubled year-to-date, but its underlying business hasn’t warranted that type of rally. The company has a dominant position in the advertising industry, and Facebook and Instagram remain two of the top social networks. However, the company’s growth is flailing, and continuous earnings declines suggest an excessive valuation.
It’s absurd to think that a company that only grew its revenue by 2.64% year-over-year and saw its net income fall by over 20% year-over-year gets a 37 P/E ratio. While those numbers may not look attractive, they are the highlights. Outside of 7% year-over-year revenue growth in Q1 2022, the rest of Facebook’s 2022 quarters featured declining year-over-year revenue. Net income declines were also significant in 2022, led by back-to-back quarters of year-over-year net income declines above 50%.
The recent nonsensical movement in Meta Platforms stock is solely fueled by the company’s cost-cutting measures. These measures can improve profit margins, but the company’s top-line numbers do not embody a growth stock. Meta relies on active users and advertisements for its revenue, and its 4% year-over-year growth in daily active users suggests very little room for further revenue growth. TikTok’s success can hurt Meta Platforms. The rise of TikTok also demonstrates how much easier it is for a new social network to establish itself and reach millions of users. More challengers can emerge in future years, and current challengers are already taking some of Meta Platforms’ market share.
Based on its fundamentals, the company’s 2023 rally was unwarranted, and investors would be best to sell this overvalued growth stock before it craters.
Microsoft (NASDAQ:MSFT) suffers similar problems as Meta Platforms, but not nearly as egregiously. Microsoft reported revenue and earnings growth in its most recent earnings report, but high single-digit growth in both areas does not deserve a P/E ratio of 36. Despite high single-digit revenue and earnings growth to kick off the year, Microsoft stock has jumped by almost 40% year-to-date.
Azure remains a driving force for the company, with 27% year-over-year growth in the first quarter. It is part of Microsoft’s Intelligent Cloud segment, accounting for most of the company’s revenue. A decrease in revenue from the “More Personal Computing” category offset some of the company’s overall revenue gains.
The company is still in a strong and growing position, but the current valuation is not justified. This growth stock is due for a correction and is one to avoid for now.
Nvidia (NASDAQ:NVDA)shocked investors with its jaw-dropping guidance, calling for $11 billion in revenue for its second fiscal quarter. Analysts were expecting the semiconductor company to provide guidance for $7.15 billion, making the announcement a major surprise.
Nvidia is in a prime position to capitalize on the growing demand for artificial intelligence. The company’s AI chips are in high demand, and the boom can last for quite a while. However, investors must be cautious when booms create heavy speculation and lead to nosebleed valuations. Nvidia is a great company but not the best stock at the moment, and it may be wise to take some profits.
The company has a P/E over 200 which can pay off if the company reports multiple years of high net income growth. However, investors have to consider if the AI news will cause a one-year surge in revenue and earnings before growth rates moderate. In other words, how long will this party last?
After the sudden 50% bump in revenue growth implied by guidance, does that growth rate carry into the following year? Does Nvidia continue its market dominance, or do other competitors get involved and decelerate Nvidia’s growth rates in the years ahead? Nvidia is a tremendous business, but its stock is priced to perfection.
Nvidia has jumped by over 45% since May. Question Nvidia stock is more about doubting the valuation than having doubts about the underlying company.
On this date of publication, Marc Guberti 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.