Online property classifieds company REA Group Limited (ASX: REA) is one of the best performing blue-chips on our market this year but the good times may not be sustained into 2018 after a broker downgraded the stock.
Macquarie Group Ltd (ASX: MQG) said the stock is getting too rich for its blood and the share price of REA Group responded with a 2.6% tumble during lunch time trade to $76.50.
This still gives the stock a gain of a little over 57% over the past 12 months, when its peers SEEK Limited (ASX: SEK) and Carsales.Com Ltd (ASX: CAR) delivered increases of 30.4% and 46.4%, respectively.
It doesn't help REA Group's cause that there are fresh signs our property market is cooling. Mortgage growth is coming off the boil and Sydney recorded a 1.3% drop in house prices in the three months to November.
REA is more susceptible to volumes than house prices but one tends to follow the other. Combine this potential headwind with the stock's heady 37.5 times price-earnings (P/E) multiple based on FY18 consensus estimates and you can understand why this could be a good time to lock in some juicy profits.
It's hard not to love REA Group given its market dominance in Australia that leaves rival Domain Holdings Australia Ltd (ASX: DHG) a distant second, but as they say, everything has a price and it looks as though REA has reached levels that are hard to stomach – even for a quality stock.
Macquarie notes that the stock is trading at premiums not seen in the last 10 years, apart from FY13/14 when REA's earnings growth had gone gangbusters.
Don't expect those golden years to repeat in FY18 and if the stock reverts to the rolling average premium it commanded over the past three years, it would imply a circa 15% downside for the stock.
"From a cash perspective, current free cash flow to equity (FCFE) yields are ~3% (FY19) and will remain below 5% until at least FY24," said the broker.
"Related to this, justification on discounted cash flow (DCF) analysis for $80 per share implies core earnings growth rates will sustain near current levels, and a doubling of EBIT from a $417 million base over the next six years."
While the broker notes that this is not unachievable, investors are being asked to pay too high a price now to bet on this outcome.
It's a good idea to cash in your chips and wait for a significant pullback in the stock before buying back into the REA Group growth story.
If you are wondering where you can park your profits, the experts at the Motley Fool have identified three blue-chip opportunities that are expected to do well in 2018.
