Starbucks, Home Depot, Chipotle, More: Consumer Discretionary Stock Valuations Too High

By Ronald Thomas, CFA  MAY 30, 2013 1:20 PM

Given the latest market news about the US long bond, discretionary valuations are even more pertinent.

 


After writing last week on consumer staples valuations being high after investors bid up for high-yielding stocks, I was mildly surprised that so many discretionaries, especially the higher growth ones, had been bid up, too.  And now that the long Treasury bond has gone from about 2.9% last week to 3.3% now, causing the consumer staples to take a hit yesterday, the discretionary valuations are even more pertinent.

Some of these stocks are discounting a higher five-year growth rate in EPS than the average of the sell-side analysts.  I can tell you from extensive experience as a buy-side analyst that such a situation is almost an infallible indication of overvaluation.  The only way it is not is if the base starting EPS level is below a normalized one because of being at a recessionary low.  But with China slowing its growth, Europe still slowing, and the US unlikely to get much stronger than a 2-3% trend line GDP growth level for the next few years, the present level of earnings has to be looked at as a normal one.

Here are some valuations, based on my three-stage earnings discount model (standard MBA stuff).  All are based on a traditional 3.3% risk-free rate, i.e. the 30-year Treasury yield plus another 1% to reflect the Fed’s quantitative easing, which everybody knows will reverse at some time.  So, the total risk-free rate is 4.3%.  (Risk discounts and terminal growth rates vary moderately by industry but are in line with what I always have used.)

Ralph Lauren (NYSE:RL) sells at $177 discounting a 15% growth rate.  Sell side average is 11%.  (Using an 11% growth rate to justify $177 would imply that the stock is less risky than Home Depot (NYSE:HD).)

Starbucks (NASDAQ:SBUX) sells at $64 discounting a 22% growth rate. Sell side average is 19%.

Chipotle (NYSE:CMG) sells at $371 discounting 27% growth. Sell side expectation is 21%.

Panera Bread (NASDAQ:PNRA) at $194 discounts a 22% growth rate. Sell side average is 19%.

Lululemon Athletica’s (NASDAQ:LULU) $78 price implies a 28% growth rate. The sell side expectation is 23%.

While the discounting effect of a higher T-bond rate obviously hits the high growth stocks the most, others in discretionaries are rich too.

Nike (NYSE:NKE) sells at $63, imbedding a 13% growth rate. The sell side expects 11%.

PVH Corp.’s (NYSE:PVH) $116 price implies 11% growth, which is very close to the sell side’s 12%.

Urban Outfitters (NASDAQ:URBN) at $41 discounts 16% growth; 15% is the sell side average. 

Williams-Sonoma (NYSE:WSM) sells at $55, which discounts 15% growth. But the sell side average is only 13%.

Lower growing discretionary stocks are also generally overvalued in my opinion, but less so.

  
No positions in stocks mentioned.

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