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TheStreet Open House

Surging Stocks Most at Risk of a Decline

By David Sterman

NEW YORK ( TheStreet) -- Stocks fell from a six-month high, putting a pause in the 13% rally that started at the end of August. Investors may have found that many stocks are overvalued, putting them most at risk if the market keeps falling.

I ran a screen for stocks that have risen at least 40% in the past three months and sport 2011 price-to-earnings ratios above 40. Some of the slow-growth companies, in particular, don't merit such a strong move.

The logical rebounders: Some of these stocks are here simply because they were too undervalued earlier in the summer. In July, I suggested that Amazon.com (AMZN), trading at $120, was due for a rally and predicted that "as investors start to once again embrace the company's robust long-term outlook, shares should eventually power past the $150 mark seen earlier this spring" (Read Long-term Gains Will Come from this Tech Giant's Short-term Pain.) With the stock now at $170, it's hard to find any appeal, as it now trades for 47 times next year's profits.

In a similar vein, health-care-information vendor Athenahealth (ATHN) also looked like the victim of too much pessimism in the summer.

Now with a much loftier P/E multiple, which is nearly twice next year's sales-growth forecast, it looks like too much optimism is the name of the game.

When the market gets carried away: I am among thousands of happy Netflix (NFLX) customers. The video delivery and streaming service continues to attract new subscribers at a stunning pace, and that's pushed its stock into the stratosphere, trading at more than 40 times projected 2011 profits. But I've seen this picture before.

In 1999, Wal-Mart (WMT) had a very rich multiple, as investors assumed strong growth would continue forever. But growth started to decelerate, and the shares slowly lost that P/E premium. A decade later, shares of Wal-Mart have gone nowhere, and still-rising sales were met with an ever-shrinking P/E. I fear a similar fate will befall Netflix.

Netflix is a company that can't afford to stumble. One so-so quarter, and this stock is toast, as expectations are so high. If you own shares of Netflix, it may be time to part with a stock that has been a real winner.

Travelzoo's (TZOO) growth spurt: This online travel site has surely posted impressive recent results. Profits for the September quarter were double the consensus forecast, as the company saw a 17% jump in revenue. Results were depressed in 2009, but demand for travel is clearly on the mend. Yet investors are clearly getting carried away, assuming the company can grow at a very fast pace in the next few years. After all, the online-travel market is largely mature, with formidable competition coming from the likes of Priceline.com (PCLN) and Expedia (EXPE).

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