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This expert believes ASX market darlings can rally further before the bubble pops

Credit: Paul Ritz

There’s good news and bad news for investors backing some of the best performing stocks on the S&P/ASX 200 (Index:^AXJO) (ASX:XJO).

High profile short-seller Phil King of Regal Funds thinks there could be quite a bit more upside left in shares like CSL Limited (ASX: CSL), Afterpay Touch Group Ltd (ASX: APT) and WiseTech Global Ltd (ASX: WTC) despite their extraordinary share price gains, according to the Australian Financial Review.

The bad news is that he also believes these stocks have entered into bubble territory and the popping of the bubble is inevitable.

His predictions come at a time when experts are expressing concern about the valuations of these high-flying growth stocks with Afterpay surging 279% over the past year, while tech superstars WiseTech and Altium Limited (ASX: ALU) notched up gains of around 140% each.

While CSL has “only” managed gains of 56% over the period, that’s an incredible feat for a company with a market cap of nearly $100 million.

Goldman Sachs noted that the top quartile of ASX stocks are trading on circa 30 times forward price-earnings (P/E). That’s even higher than during the dot com bubble.

King made some of his best returns by shorting stocks following the busting of the tech bubble but he is wary about making big bearish bets against our market darlings for now due to record low interest rates.

Shorting is selling borrowed stock in the hope of buying it back later at a lower price to profit from the difference.

When the tech bubble popped at the turn of this century, the yield on the 10-year US Treasury (government bond) was around 7%. Right now, the yield on the 10-year is hovering under 3%.

Low rates not only bolster stock valuations as it lowers the discount rate used to value shares, but they cut opportunity costs.

Investors are more willing to give companies time to prove their worth when they get so little for their capital elsewhere.

King believes that our record low interest rates are the reason why short-selling has been a soul destroying trade (click here to read more about this losing trade) as any sort of valuation can be justified when rates are so low.

For this reason, the party for our most expensive and popular stocks can go on although King is keeping a sharp eye on signs that we have past the top of the market.

Retail investors should also be alert. You don’t want to be the last one holding the parcel when the music stops.

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Motley Fool contributor Brendon Lau owns shares of AFTERPAY T FPO. The Motley Fool Australia owns shares of AFTERPAY T FPO, Altium, and WiseTech Global. 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.

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