After rally, plenty of short opportunities

There are many reasons to expect a pullback soon.

By Stock Traders Daily Mar 22, 2012 5:25PM

Image: Stock investor (© Tom Grill/Corbis)This past winter, while car shopping, I must have heard the phrase "deal of a lifetime" from four different salesmen.


I wondered how it could be possible that each car salesman could offer me a deal of lifetime. Obviously, it was just another pitch, hoping to make me feel confident and comfortable with their offers. So, when I heard Wednesday that "now is the best time in a generation to buy stocks," I grimaced.


While the opinion, from Goldman Sachs (GS) analysts, is certainly valued, I think it's fair to say that the statement came off as over-the-top at best, and perhaps just wrong at worst. I tend to cringe whenever I hear a statement like that -- especially when sentiment has already been so bullish for an extended period of time.


The extreme bullishness, complete lack of volatility, and prolonged run by the market is only one reason to expect a pullback soon.


In recent articles, I have argued that analysts and investors are almost completely dismissing the near-record gas prices. Even before the spike in fuel costs, companies' margins were being pressured due to a lack of pricing power, as consumers are still in a cost-conscious mindset. Recall just how promotional the holiday shopping season was.


Now, combine that with this surge in gas and energy costs, as well as the recent pickup in hiring (workforce expenses), and there's a recipe for significant earnings disappointments upcoming in first-quarter reports.


Lastly, on a technical basis, the broader markets are looking "toppy." The Standard & Poor's 500 Index ($INX) is struggling to extend past the 1,400 area, and the Dow Jones industrials ($INDU) was rejected around 13,300 and is now receding. So, with these headwinds in mind, I wanted to put a few short-side ideas on your radars.


Buzzkill ahead for SBUX?


Shares of Starbucks (SBUX) have been on a tear and are currently trading at all-time highs. The company is on a roll, back in a growth phase and expanding in emerging markets like China. It's also launching its "Verisimo," putting it in the red-hot single-cup coffee system market.


The problem, or potential headwind, is that Starbucks will likely face commodity pricing pressure soon, and may not be able to pass that to customers as smoothly as last summer. (Food prices tend to rise when fuel costs rise.)


The company put through a fairly significant price increase for many drinks last year, and consumers who are already feeling the pinch at the pump may not be as tolerable this time around. With McDonalds offering $1 coffee, there are other options out there to get your caffeine fix.


Also, its valuation is getting a bit frothy, with a 1-year forward price-to-earnings ratio nearing 24. The stock is priced for perfection, and there may be hurdles on the horizon.


Slowing China


It's no secret that China's growth is slowing. The only question is, will we see the much-feared "hard landing," or will the slowdown be more gradual? Either way, it is a negative for Chinese stocks, especially those that still have high multiples. One such stock is Sina (SINA), the Chinese online game developer.


The company is coming off a disappointing fourth-quarter report in which it missed on the bottom line and saw revenue growth slow to 21%. The stock is well off from the highs seen last summer, when it traded over $145, but its valuation metrics still suggest it may be overpriced. Its trailing P/S is near 10x and its forward P/E is north of 40.


Also, on two recent occasions, the stock was unable to break through a key $78 level, and it is approaching its 50-day moving average. If it doesn’t there, the stock could be poised for sharp declines.


'Better' environment priced in for homebuilders


It appears that the housing market has at least found a bottom and is showing some improvements. This week has been heavy on housing data, and for the most part, it has been inline with expectations, but has failed to impress. However, homebuilder stocks have been charging higher over the past few months on the expectation that new home sales will rebound. One of the sharpest climbs has come from Lennar (LEN), which has more than doubled since last October.


With banks still sitting on hundreds of thousands of foreclosed properties yet to be on the market, homebuilders are going to be contending with a very difficult pricing environment. Also, the record-setting warm winter months across the Midwest and Eastern parts of the countries are at least partially responsible for the improved new home sales. In other words, it seems as if LEN and other homebuilding stocks have already priced in a modestly better market – and probably then some.

A Pair of short-side ETFs


If shorting specific stocks isn’t your cup of tea, there are ETFs available that take short positions that you can buy. For instance, I have been suggesting lately that hedging your long positions by picking up some shares of the ProShares UltraShort S&P 500 ETF (SDS) makes some sense. With the market's rally, SDS has been slammed lower, but the sell-off creates an opportunity to buy some insurance on the cheap.


Another ETF that is looking interesting is the ProShares UltraShort Euro (EUO). Following the "successful" Greek bailout, concerns about a fiscal disaster in Europe have greatly diminished. Consequently, shares of EUO have sank lower over the past few weeks.


However, from an economic standpoint, what has been cured in Europe? The continent is still grappling with a widespread recession, which could deepen, making the odds of countries meeting their growth targets questionable at best. This means more risks of not being able to make debt payments, and consequently, more conversations about defaults for some of the weakest countries in Europe. Therefore, the probability of the Euro declining in the intermediate future seems likely, making the EUO a compelling buy.

 

1Comment
Mar 23, 2012 10:11AM
avatar
Where's the buy and hold guys. I keep forgetting, churning is the profitable part of the business.
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