It is not a great secret that I think stocks are expensive. According to last week's Barrons, the S&P 500 is trading at 25x earnings and almost 3x book value. While there are those who will argue that this is somewhat reasonable given the low level of interest rates, you cannot make the argument that stocks are cheap.
They simply aren't. I have been using things like F-scores and multiples of assets and earnings to find stocks that should be avoided or sold, but it has been a while since I looked at the S&P Capital IQ STARS (STock Appreciation Ranking System) rankings to find stocks that are likely to be stinkers -- and should be shunned in a pricey market.
The STARS rankings are based on macro, industry and company-specific fundamental data. Stocks are ranked from 1 to 5 stars, with 5 being an outstanding buy and 1 being more of a "you probably should not buy this" suggestion. Stocks ranked a 1 are expected to underperform the index and have a negative total return over the next 12 months. Since STARS rankings were introduced back in 1987, the rankings have worked pretty well -- and one-ranked stocks have earned a fraction of the stock market's total return.
The list of one-ranked stocks is pretty short right now, but there are some interesting stocks on the list. Clorox (CLX) has been on several recent lists of potentially overvalued stocks, and this one is no exception. It is not that Clorox is a bad company. Quite the opposite is true. I guarantee that a stroll through my house would produce a dozen of more of its products that we use on a regular basis.
The problem with Clorox shares is that they are too expensive and it is going to be tough for it to grow very fast in a weak economy. If that is not enough, the company's largest customer, Walmart (WMT) , will be using private-label brands to compete against CLX in several product categories, and that will slow growth even further. The stock should be avoided until we see more reasonable pricing for the shares.
There is a restaurant named Vines here in Orlando that we go to for very special occasions. The food is wonderful, but it is kind of pricey. That is what Whole Foods Markets (WFM) has become for us. When we are having a special dinner and need a really good rib roast or some high-end seafood, we head to Whole Foods. For regular grocery shopping, we find that the local Publix has plenty of solid offerings at much better prices.
I think that is true for a lot of people -- and is a big part of the reason that Whole Foods is a one-star stock. S&P also points out in its report that most grocery chains are improving their offerings of organic and fresh products, which has cut traffic to the While Foods locations. When we get back to boom times for consumers, we may see trends reverse for the company, but for now cautious consumers are going to keep pressure on the top and bottom line for this company.
Multifamily housing has been red hot over the past few years, and so have shares of Essex Property Trust (ESS) . The company is one of the largest owners of apartments on the West Coast, with a heavy presence in the Seattle and Southern California markets. Those markets have performed well, and good performance attracts more supply. This has proved true in both markets. There is now the danger of oversupply, and it will be more difficult to fill buildings and raise rents. Essex is also going to have to spend some money to bring the properties acquired in the recent BRE Properties acquisition up to its standards, and that will also be a drag on profits.
Other stocks on the underperformers list include Clear Channel Outdoor Holdings (CCO) , Consolidated Edison (ED) , Fossil Group (FOSL) , Nabors Industries (NBR) , Pearson (PSO) , Boston Beer (SAM) , WEC Energy Group (WEC) , WGL Holdings (WGL) and Aqua America.
The STARS approach to picking stock has done a great job of identifying stocks that will underperform so investors might want to be cautious with these stocks and if you own them, it makes sense to consider selling them at this level. When markets pullback companies with weak fundamentals like these usually lead the way lower.