Growth stocks can make for great long-term investments. But the more attractive the growth stock, the higher the premium it normally commands. Just look at Nvidia, which is developing chips to help in the development of artificial intelligence models. Then there's Tesla, the leading electric vehicle maker. Both companies operate in some high-growth arenas, which is why investors often don't balk at paying a steep price tag.
Eli Lilly (LLY -2.65%) also falls into that bucket. The healthcare giant has unlocked a new growth opportunity in weight loss, with the Food and Drug Administration recently approving Zepbound for that indication. Up 60% this year, Eli Lilly has hit new all-time highs amid the excitement around Zepbound. Should investors still buy the stock at its lofty valuation, or are you better off waiting for a drop in the share price?
The stock trades at over 100 times earnings
Eli Lilly is one of the most promising growth stocks to own right now. It also looks to be the most likely healthcare stock to reach a market capitalization of $1 trillion. But there's no doubt that today it trades at a high premium. Historically, Eli Lilly hasn't been a cheap stock to buy, but it has reached new heights this year.
LLY PE Ratio data by YCharts
Prior to 2021, this was a stock that would more often sport a price-to-earnings (P/E) multiple of around 30 or less. Today, it's at more than 3 times that level. The danger with a stock trading at this kind of a premium is that it's effectively assuming everything will go perfectly for the business. That means no hiccups along the way for Zepbound, Eli Lilly's highly effective weight-loss drug, or presumably for any other products.
Eli Lilly has incurred acquisition-related expenses in its latest quarter (ended on Sept. 30) that have weighed down its earnings by close to $3 billion, and so the P/E multiple does look worse than it otherwise would. But even on a forward-looking basis, the stock is trading at close to 50 times its estimated future profits. The average stock in the S&P 500 has forward P/E of only 20.
The risk is that if there are unexpected challenges along the way for Eli Lilly, that could make the stock vulnerable to a sell-off. As a result, conservative investors may be waiting for the shares to drop in price before buying any.
Why investors shouldn't risk timing a stock
While it's always good to have a stock's valuation in mind when determining whether to buy it, there is also a risk. If you wait for a decline in price that never comes, you may end up missing the opportunity altogether. If Eli Lilly's market capitalization does hit $1 trillion, it likely won't get there without some bumps in the road. But while there will be dips along the way, they may not be significant.
Eli Lilly possesses an extremely attractive asset in its portfolio: tirzepatide, which is an approved treatment for weight loss (Zepbound) and diabetes (Mounjaro). This is more than your typical blockbuster drug -- its revenue potential could hit upwards of $68 billion at its peak, according to a recent analyst projection, which was based on the drug's opportunities in both weight loss and diabetes.
With that kind of promise, investors could -- and should -- be paying a significant premium. As long as the drug's potential remains that lucrative, investors shouldn't expect the stock to trade anywhere near a P/E of 30 again anytime soon.
More reason to buy than to wait
Investors who are too focused on P/E multiples could miss out on a great opportunity with Eli Lilly stock. While there are no guarantees that the company and its promising weight-loss treatment won't run into any challenges along the way, investors shouldn't expect a big drop in its valuation, either. As long as you're buying the stock for the long term, it may not be too late to invest in Eli Lilly.
