Get Ready for the Fall

"The bigger they are, the harder they fall." It's the worst nightmare of every investor in today's market -- buying a hot stock just before it takes a nosedive.

Every day, Nasdaq.com publishes a list of stocks whose shares have just hit new 52-week highs. And every day, investors read the list and tremble -- some with greed, others with terror. On our Motley Fool CAPS investing community, these top stocks usually enjoy favorable ratings, since everyone loves a winner. But what should you do when some of CAPS' smartest investors pan one of these hot stocks?

For starters, consider using the "52-week-high" list as a starting point for further research. Stocks can rise for many reasons, but a little help from Motley Fool CAPS can make it easier to figure out how worthy those reasons are. Let's see what the 83,000-plus stock gurus (and counting) in CAPS have to say about the list's latest contenders:

Everybody loves a winner
When stocks soar on the wings of success, bears become rare. Every stock on today's list is hitting a 52-week high right now, and CAPS investors expect more of the same going forward.

Smells like dog
Now, the purpose of this column is to help you identify overblown growth stories -- rising stocks that the "wisdom of crowds" believes are destined to go right back down. Unfortunately (?), we don't have any of those today.

What's the next best thing to watching as the CAPS community pins the tail on a dog of a stock? Well, we can at least begin looking for fleas. Of the five companies we named above, two lack a single CAPS pitch describing the case against them. And Chunghwa and Neogen have just one bearish pitch each. IGT, though, wins in the sweepstakes for most negative sentiment in a highflying stock -- 25 underperform ratings on CAPS, eight of which also come with substantive pitches. Here are three of the best:

• Writing almost exactly one year ago, today, CAPS All-Star WallStFinest described one reason to go bearish on IGT: "12.9%, 6.5%, 2.9%, 0.0%. This represents [an] earnings surprise based on analyst estimates. ... [You see analysts] pushing higher and higher but their surprise goes lower and lower and soon [IGT] will miss [estimates] and [the company's] 30 P/E will collapse." In fact, IGT did miss an estimate soon thereafter, falling two cents short of consensus in the quarter ended in March 2007. But the company made up the difference one quarter later and met estimates in the next two quarters. My guess: WallStFinest would still say IGT looks wobbly today.
• Fellow All-Star bbcz has more real-world reasons for discounting IGT's growth story: "Walk into a casino. Do you see as many IGT machines as you used to? I don't. I see far more [WMS Industries (NYSE: WMS) machines] than ever.
• Seeing much the same thing, manoncafe argues that IGT is "Losing the plot. Dominance ebbing with WMS and Aristocrat rising strongly in the market. They are lucky [Bally Technologies] has yet to get their plot together having created a luckless looking senior management team that has little or no gaming expertise."

I agree with the three pitchers above. When I look at IGT, I see a price-to-earnings ratio of 32 on a stock that most analysts expect to grow at just 13% per year over the next five years. What's more, the analysts appear to be getting ever more accurate in predicting IGT's growth trend, and their precision should increase your confidence that they've got IGT pegged correctly. Add the fact that the company has generated less free cash flow than net income under GAAP over the past four quarters, and you wind up with a price-to-free cash flow ratio that's even more out of whack with growth expectations.

Put it all together, and I'm going to break with the CAPS consensus on this one. The vast majority of CAPS players think IGT's a winner, but in my opinion, IGT is ready to fall.

Disagree? Feel free. Come on over to CAPS, and make your case that IGT is a buy.