Retail investors can make a bet or take on an opposing view with increased odds of success whenever a market gets too crowded on the long or short side. Like the 2008 financial crisis, when everyone bet in favor of housing only to find out they all had to run for the exit all at once, only a few investors could spot this unfair advantage opportunity.
In today’s stock market, investors can look at this report from Bank of America, which covers the weighing in thematic trades and investments. The most crowded trade is now in the United States' so-called “Magnificent Seven” stocks; the second most crowded trade is shorting Chinese stocks. Now that everyone is rushing to close their shorts, Chinese names like Alibaba Group (NYSE: BABA) and Baidu Inc. (NASDAQ: BIDU) have triggered a major short squeeze.
The same could happen if any downturn were to occur in crowded technology stocks like Meta Platforms Inc. (NASDAQ: META), Apple Inc. (NASDAQ: AAPL), and even investor favorite Tesla Inc. (NASDAQ: TSLA). A rush to exit these names at once could cause what’s termed a pain trade, where most of the participants will be brought to maximum risk tolerance and forced to liquidate and accelerate the selloff.
Pain Trade #1: Why Tesla Stock Could Be at Risk
Tesla is riding on two major tailwinds and thesis today. First, the robotaxi unveiling might or might not be here as soon as investors think. Second, the pace of delivery numbers to be released this week places a significant weight on the potential future path of Tesla stock.
The good news for bulls is that China is back online, and Tesla has been expanding its footprint in Asia’s powerhouse. Peers in the region, like NIO Inc. (NYSE: NIO) and BYD (OTCMKTS: BYDDF), have both reported record deliveries for the third quarter, with BYD hitting a significant 1 million milestone in deliveries.
Now, here’s the bad news. Tesla stock trades at a price-to-book (P/B) of 12.4x today, compared to NIO stock’s 6.7x and BYD’s 6.4x valuations today. In the United States, most automotive stocks trade at an average P/B valuation of less than 1.5x, which means Tesla's potential delivery growth might already be priced into the stock today.
This means that, even if delivery numbers are bullish, Tesla has little room to keep moving higher. This is why Wall Street analysts now only forecast $0.63 earnings per share (EPS) in the next 12 months, calling for net growth of 21.1% from today’s $.52.
While this EPS growth may be impressive, the issue of it already being priced into the stock remains. Those at Guggenheim landed on a $153 price target for Tesla stock, calling for as much as 40.1% downside from where the stock trades today. Even the consensus of $209.9 is bad enough to call for an 18.6% downside for Tesla.
Pain Trade #2: Why Apple Is No Longer a Buffett Favorite
That’s right. Warren Buffett cut as much as 50% of his stake in Apple stock during the past quarter. While he quoted the sale as being driven by tax efficiency purposes, a deeper reason could be related to the weakening consumer discretionary sector.
With new interest rate cuts coming from the Federal Reserve (the Fed), the dollar is set to weaken, as interest rates are one of the main drivers of currency valuations. This means the U.S. consumer will suffer from even thinner buying power after inflation has already had its round of negative effects on it.
Even though Apple is an international giant able to cushion whatever consumption tailwinds come from the United States, the same reasoning applies when it comes to pricing in this safety and growth potential. Apple stock now trades at 51.6x P/B compared to other peers in the technology space, like Alphabet Inc. (NASDAQ: GOOGL) and its 6.9x valuation.
Analysts at Barclays now see a valuation of $186 for Apple stock, which calls for a net downside of 17.8% from where the stock trades today. This reiterates the potential for Apple to become a pain trade in the coming months.
Pain Trade #3: Meta's Heavy Cash Outlay Mirrors the Metaverse Flop
In 2022, Meta stock traded down to $90, one of the lowest prices seen since the COVID-19 pandemic. The reason for the crash was the strategy behind the Metaverse, which burned through billions of the company’s free cash flow in a project that never took off.
The same cycle is happening today as Meta looks for new disruptive ideas and technologies to make a new splash; Mark Zuckerberg (Meta’s CEO) has decided to venture into artificial intelligence glasses that could supposedly replace smartphones if done right.
How much cash will Meta burn through this time on this project, and will it have any return? Investors do know that the stock trades at its 52-week high, and analysts at Goldman Sachs don’t think it can break through that ceiling.
With a $555 share price target, Goldman Sachs thinks Meta has a potential downside of 5% from where it trades today. However, that could only be the tip of the iceberg, as the financial impacts of this new project are not yet known.
