The U.S. equity markets have witnessed extreme volatility this year amid the Fed’s hawkish stance, the Russia-Ukraine war and inflationary concerns. With the fourth successive 75 basis points increase early this month, the Fed has vowed to continue its aggressive rate hike policy to curb high inflation. Everyone is all ears for Fed Chairman Powell’s speech today at a Brookings Institution event, which would offer further insight into future interest rate hikes. Amid exacerbated supply chain issues, stubborn inflation and aggressive rate hikes, worries of an economic slowdown may induce further bouts of volatility. At this critical juncture, it’s as important to get rid of fundamentally weak toxic stocks as it is to invest in attractively valued companies possessing fundamental strength.
Toxic companies are usually characterized by huge debt loads and are vulnerable to external shocks. These stocks might illusively scale lofty heights in a given time period but the good show doesn’t last for these overblown toxic stocks. This is because their current price is not justified by their fundamental strength. Accurately identifying such bloated stocks and getting rid of them at the right time can protect your portfolio.
Overpricing of these toxic stocks can be attributed to either an irrational enthusiasm surrounding them or some serious fundamental drawbacks. If you own such bubble stocks for an inordinate period, you are bound to see massive erosion of wealth.
Nonetheless, if you can precisely spot such toxic stocks, you may gain by resorting to an investing strategy called short selling. This strategy allows one to sell a stock first and then buy it when the price falls. While short selling excels in bear markets, it typically loses money in bull markets.
So, just like identifying stocks with growth potential, pinpointing toxic stocks and offloading them at the right time is crucial to guard one’s portfolio against big losses or make profits by short-selling them.
Emergent Biosolutions
EBS
,
Western Digital Corporation
WDC
Thoughtworks Holding Inc.
TWKS
and
DASAN Zhone Solutions, Inc
DZSI
are a few such toxic stocks.
Screening Criteria
Here is a winning strategy that will help you to identify overpriced toxic stocks:
Most recent Debt/Equity Ratio greater than the median industry average:
High debt/equity ratio implies high leverage. High leverage indicates a huge level of repayment that the company has to make in connection with the debt amount.
P/E using 12-month forward EPS estimate greater than 50:
A very high forward P/E implies that a stock is highly overvalued.
% Change in F (1) and F (2) Estimate (12 Weeks) less than -5:
Negative EPS estimate revision for this fiscal year and the next during the past 12 weeks points to analysts’ pessimism.
Zacks Rank more than #3 (Hold):
We have not considered Buy/Hold-rated stocks that generally outperform or are in line with the market. You can see
the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here
.
Get Rid of These Toxic Stocks
Here are four of the 23 toxic stocks that showed up on the screen:
Emergent Biosolutions
: Headquartered in Gaithersburg, Emergent BioSolutions is a global specialty biopharmaceutical company that aims to offer specialized products to healthcare providers and governments to fulfil unmet medical needs and combat emerging public health threats.
The Zacks Consensus Estimate for EBS’ 2022 earnings per share implies a year-over-year decline of 149%. The consensus mark for the 2022 bottom line has deteriorated from a loss of 55 cents a share to $2.96 over the past 30 days. Emergent missed earnings estimates in three out of the last four quarters and topped in the other, with the average negative surprise being 565.6%. The company carries a Zacks Rank #4 (Sell) and has a VGM Score of D.
Western Digital
: Headquartered in San Jose, CA, Western Digital designs, develops, manufactures and markets a broad range of HDDs used in desktop PCs, servers, network-attached storage devices, video game consoles, digital video recorders and a host of other consumer electronic devices.
The Zacks Consensus Estimate for WDC’s fiscal 2023 sales and earnings per share implies a year-over-year decline of 29% and 102%, respectively. The consensus mark for 2022 bottom line has deteriorated from earnings of $1.93 a share to 9 cents over the past 60 days. Western Digital missed earnings estimates in one out of the last four quarters and topped thrice, with the average negative surprise being 3.1%. The company carries a Zacks Rank #4 and has a VGM Score of C.
Thoughtworks
: Based in Chicago, Thoughtworks is a technology consultancy company, which integrates strategy, design and engineering to drive digital innovation.
The Zacks Consensus Estimate for TWKS’ 2022 earnings per share implies a year-over-year decline of 6.5%. The consensus mark for 2022 EPS has moved south by 5 cents to 43 cents a share over the past 30 days. Thoughtworks missed earnings estimates in one out of the last four quarters, met twice and topped in the other, with the average negative surprise being 4.7%. The company carries a Zacks Rank #4 and has a Value Score of D.
DASAN Zhone
: Based in Plano, TX, DASAN offers network access solutions and communications platforms for service providers and enterprise networks in the United States, Canada, Latin America, Europe, the Middle East, Africa, Korea, and other Asia Pacific Countries.
The Zacks Consensus Estimate for DZSI’s 2022 earnings per share implies a year-over-year decline of 33.3%. The consensus mark for 2022 EPS has moved south by 13 cents a share to 18 cents over the past 30 days. DZSI missed earnings estimates in three out of the last four quarters and topped in the other, with the average negative surprise being 15.1%. The company carries a Zacks Rank #4 and has a VGM Score of D.
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.
Disclosure:
Officers, directors and/or employees of Zacks Investment Research may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material. An affiliated investment advisory firm may own or have sold short securities and/or hold long and/or short positions in options that are mentioned in this material
.
Disclosure:
Performance information for Zacks’ portfolios and strategies are available at
:
https://www.zacks.com/performance
.
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