This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." So you might think we'd be the last people to give virtual ink to such "news." And we would be -- if that were all we were doing.

But in "This Just In," we don't simply tell you what the analysts said. We'll also show you whether they know what they're talking about. To help, we've enlisted Motley Fool CAPS, our tool for rating stocks and analysts alike. With CAPS, we'll be tracking the long-term performance of Wall Street's best and brightest -- and worst and sorriest, too.

And speaking of the best ...
Oh, how the mighty have fallen. It's been just eight months since I first profiled investment banker Stifel Nicolaus as a Wall Street standout ranked in the 99th percentile of CAPS players. Today, the firm barely breaks into the ranks of the All-Stars with an 80.43 CAPS rating, and it's getting more of its picks wrong than right. All the same, I still like these guys' style.

Its fall from grace notwithstanding, we'll look at a pair of downgrades that Stifel threw in the pot yesterday. Amazon.com (Nasdaq: AMZN  ) , and Overstock.com (Nasdaq: OSTK  ) both got downgraded from "hold" to "sell." You rarely see a professional stock picker tag a stock with an honest-to-goodness "sell" rating, but Stifel's given us a two-fer. On the surface, Stifel dissed both companies by warning that "the domestic retail environment and a slowing economy could impact Internet growth over the coming quarters." This would logically hurt online retailers like Amazon and Overstock.

Let's go to the tape
Of course, an economic slowdown would hurt many companies that sell goods to struggling consumers, including online retailers and their bricks 'n' mortar counterparts alike. Before getting into the nitty-gritty of Stifel's reasoning, let's take a look at how well its thinking has performed in past online retailing picks:

Company

Stifel Said:

CAPS Says:

Stifel's Pick Beating S&P by:

Priceline.com (NASDAQ:PCLN)

Outperform

***

58 points

Amazon.com*

Outperform

**

58 points

eBay (NASDAQ:EBAY)

Outperform

***

16 points

*Jan. 22, 2007 pick closed on April 27, 2007.

And on the more tangible side of retail:

Company

Stifel Said:

CAPS Says:

Stifel's Pick Lagging S&P by:

Build-A-Bear (NYSE: BBW  )

Outperform

**

50 points

Kohl's (NYSE: KSS  )

Outperform

***

31 points

Coach (NYSE: COH  )

Outperform

****

25 points

Ahem. So it seems we've got a bit of a mixed record here. Stifel has a real feel for online retail. But back in the physical world, its instinct seems a bit off. No wonder the analyst's record has been sliding of late.

Foolish takeaway
Lucky for investors, you don't need an MBA in economic forecasting to understand Stifel's real reasoning for downgrading these stocks: valuation, which Stifel describes as "full." Pointing out that Amazon.com stock has nearly tripled in price over the last year, and that Overstock.com has nearly doubled, I think it's clear that Stifel's most concerned not with the indefatigable U.S. consumer, but with these two companies' indefensible stock prices.

Amazon shares currently fetch 53 times trailing free cash flow and 125 times trailing earnings. Against 23% projected profits growth, this gives the firm a PEG ratio of -- better sit down for this -- 5.4. That's about five times more than what many value investors would call a fair price. And Overstock? How's a PEG ratio of negative infinity grab you? Never profitable, the online closeout specialist is still burning cash like it was some sort of alternative fuel source.

Mind you, I'm not saying either stock will go down. Both companies have considerable short interest (12% for Amazon, 28% for Overstock), and anything short of tragic news in the next round of earnings reports could send the shares flying, as shorts rush to close their positions. But from a "Valuation Matters" perspective, yes, these stocks are clearly overpriced.

Fools of a feather rarely fly together. At Motley Fool Stock Advisor, legendary growth-stock investor David Gardner still has a place in his portfolio for Amazon.com -- even after the stock has run up nearly 500% in value since he recommended it five years ago. But would he actually buy more at today's price? Take a free trial to the newsletter and find out.


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