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Is buying Afterpay shares just gambling?

Sebastian Bowen
casino

The Afterpay Touch Group Ltd (ASX: APT) share price is truly the closest thing I’ve seen on the share market to a roller-coaster.

Just look at this chart of APT shares over the course of 2019 so far.

Source: Google Finance – APT YTD returns

Although the price gains and falls of a share can see like a game, in reality, they are reflecting the real valuation of a company. In this case, of Afterpay’s business.

Efficient market theory – the most commonly taught method of looking at the share market – tells us that the stock market is a completely efficient and rational place where companies get fairly and constantly valued by their cashflows – both present and future.

If this is true, it means that at various points of 2019, Afterpay as a company has ‘rationally’ had a value (market capitalisation) of $7.38 billion, $9.45 billion and $3.03 billion, all in one year.

Even more incredible is that Afterpay has been priced by the market at both $9.45 billion and $6.56 billion in just October alone!

You can probably figure out that efficient market theory doesn’t hold much water with me, but I think these statistics prove its folly. How can the real, rational, tangible value of a business fluctuate so wildly in the space of 11 months (or even 1 month)?

For me, the answer is because investors and speculators are playing games with Afterpay – a giant game of chicken, to be precise. The winners are those who buy in first and sell out first, creating a frenzy of activity every time a major news story or development comes out. Positive? Hit the buy button before anyone else. Negative? The sell button. Rinse, repeat.

I don’t like to join in on this kind of fun, but Afterpay has yet to turn a profit, so a traditional valuation is difficult to place on the company. However, Afterpay expects to turn a profit during FY21, which means, if the company’s guidance is correct, it trades today on 138x FY21’s earnings. For some perspective, even the highest-flying FAANG stocks Netflix, Inc. and Amazon.com Inc. are sitting on forward P/E ratios of 53 and 65, respectively.

Foolish takeaway

For me personally, I regard Afterpay’s current stock price as lofty at best and will be staying away until some rationality returns to its price. It’s my opinion that a business can’t accurately be valued on future cash flow projections, so therefore I think I’d be taking a punt if I were to buy APT shares at these levels.

The post Is buying Afterpay shares just gambling? appeared first on Motley Fool Australia.

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Sebastian Bowen has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of and recommends Amazon and Netflix. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of AFTERPAY T FPO. The Motley Fool Australia has recommended Amazon and Netflix. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

The Motley Fool's purpose is to help the world invest, better. Click here now for your free subscription to Take Stock, The Motley Fool's free investing newsletter. Packed with stock ideas and investing advice, it is essential reading for anyone looking to build and grow their wealth in the years ahead. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson. 2019