One of the star companies of the year, Tesla continues its march higher with little or no pullbacks. Nothing seems to stop investors optimism – the pandemic or the stock split announcement.
The company’s share price traded $1,900, just shy of the magical $2,000. On its way up, the rally transformed the charismatic Elon Musk into one of the richest people on earth. Why is the interest in Tesla so high, and how can investors justify the high valuations the company reached?
Tesla Underlying Metrics
Regardless of how one looks at the financial statements and analyses the company, Tesla is overvalued in all aspects. It deviates from the sector median multiple times, reflecting the lag between the leader and the followers.
For example, at the current market price, Tesla trades at 205 P/E ratio, while the sector median is 21.25. Or, the price/cash flow ratio, trailing twelve months, is 130.01 when compared with 10.97 for the sector.
Such numbers reveal just how much interest is behind the company. There is no way to justify an investment at such values using traditional financial statements analysis.
But something else drives people to Tesla. Here are some reasons.
First, money. People suddenly had money on their hands as the U.S. Congress delivered a huge fiscal stimulus. This is also one of the reasons why the USD trades with an offered tone and why it declined significantly since the start of the financial crisis.
Second, fractional sharing investing. Retail traders with money on their hands opened trading accounts at brokerage houses that allow fractional ownership. In other words, you can own just a fraction of the Tesla stock. In some cases, as little as $5 an investment is possible. Multiplied by millions of new trading accounts opened during the pandemic, and the surge in stock market prices does not sound that strange anymore.
Third, the S&P500 possible inclusion. At the current market price, Tesla is valued at $342 billion, becoming the 10th largest company by market capitalization. It passed beyond Procter&Gamble or Mastercard and eyes companies like Apple, Amazon, Walmart, or Johnson&Johnson.
What is interesting here is that it is only the second time a company reached top ten in terms of market capitalization without being part of the S&P500. The other time when this happen was when Berkshire Hathaway, Buffett’s investment vehicle, reached a similar performance. It was included in the index in 2010.
If Tesla is added to the index, passive managers will alter their portfolios to reflect the new composition. Some already prepared for the upcoming announcement, some prefer to wait so as not to deviate from the index too much.
Regardless of the reasons – lower USD, cheap money available to the masses, fractional investing, or the S&P500 possible inclusion – Tesla remains investors’ darling. Unless such perception changes, expect its stock market price to continue to outperform.