Fear of heights is often considered a psychological abnormality. In the investment world, however, it can be a downright lifesaver.
Stock valuations can get ahead of themselves, but they rarely stay inflated before falling back to earth. Mid-cap WD-40 Company (WDFC, Financial) makes the ubiquitous oil-based spray products most of us have tucked away somewhere in our homes or garages.
The stock used to fly under the radar. It was mostly thought of as a conservative way to get about 2.5% to 3.5% in predictable annualized dividend payments. What kind of P/E does single-digit growth typically warrant?
The past nine years of market action says that since the end of 2006, WD-40 has averaged an 18.1x multiple, typically accompanied by about a 2.64% current yield. The best buying opportunities (green-starred below) often provided entry points even better than that.
Traders who overpaid for WD-40 near 2007’s peak, at an above-normal 23.3x multiple, absorbed about 49% drawdowns at 2009’s nadir. They didn’t see share price gains for more than four years.
Momentum buyers who joined the party in late 2013 experienced a greater than $14 per share, 11-month long retreat before WD-40 started heating up again.
Irrational people have now pushed WD-40 north of $115, a previously unthinkable valuation of 33.4x expected earnings. The 1.46% current yield, at 45% below normal, is pretty much the stock’s worst ever.
Analysts take a positive view on WD-40’s business prospects. Value line thinks the firm can post $4.70 in EPS no later than fiscal year 2021 (fiscal years end Aug. 31 of the same year). Even so, they see the stock’s multiple regressing back to a more pedestrian and historically correct 19.0x.
Under that scenario today’s shareholders would have no chance of making money even when taking the now-meager dividend into account.
Research outfit Morningstar’s quantitative, computer-generated "fair value" estimate sits at $97.59, about $17.50 below the stock’s June 21 quote. That number seems optimistic to me as it assumes WD-40 can grow profits to $3.75 next year while maintaining a 26.0x multiple.
Time will tell. In the meantime, Morningstar correctly assigns WD-40 a 2-star (out of 5) sell rating.
Standard & Poor's Capital IQ service has generated another example of an intellectually indefensible buy rating.
Analyst J. Agnese enigmatically assigned WD-40 a 4-star, out of five, buy rating on June 18 with the shares at $113.82. While he’s been right over the first few days, it makes no sense when taking his 12-month target of $110 into consideration.
The weight of the evidence argues strongly that risk outweighs potential reward for holders of WD-40. If the company hits S&P’s fiscal year 2017 estimate of $3.73 but trades for a still-above-normal 20 multiple it could drop back to under $75.
WD-40’s approximate double from its late 2013 price came on just over 31% in increased profits. The rest of the gain was strictly due to P/E expansion. With WD-40 and other stocks like it, let your natural fear of heights protect you from the effects of what could be a very painful fall.
Disclosure: No position in WD-40.
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