Wall Street has a habit of getting overly excited about things, often projecting strong financial performance over a quarter or two into the indefinite future. When this happens, investors sometimes push stock prices to levels that, in hindsight, appear unrealistic.
TJX Companies (TJX -0.86%) is currently trading near all-time highs after posting strong fiscal 2024 results. Are investors too optimistic here about the future performance of this discount retailer?
TJX had a very good year
In the fiscal fourth quarter of 2024, TJX managed to grow same-store sales by 5%. That was above even the company's own internal expectations. It was, without question, a strong showing. Notably, the majority of the increase was driven by an increase in store traffic. In other words, more people were looking for the bargains that TJX offers its customers in its multiple brands of off-price stores, including T.J. Maxx, Marshalls, HomeGoods, HomeSense, Winners, and Sierra.
Clearly, the company's business model is resonating with people right now. Now add in the company's plans for new store openings, and the future does, indeed, look pretty bright. Wall Street has gotten behind the story, pushing the shares of this retailer up toward all-time highs.
There's a potential problem here, however, when you start to look at valuation. For example, the price-to-sales ratio is near the highest level in the company's history. The only time it was higher was during the early days of the coronavirus pandemic when stores were shut down, sales fell dramatically, and valuations got materially distorted. Basically, Wall Street is placing an increasingly higher valuation on TJX shares when you examine this metric. Elevated price-to-earnings, price-to-book-value, and price-to-free cash flow ratios also suggest that the stock is fully valued, if not expensive, today.
If Wall Street is overly optimistic about TJX's prospects, then everything has to go right for the shares to simply maintain the current elevation. To go higher might actually require outright improvements in the retailer's already strong performance.
What could go wrong here?
That could be a problem. For starters, TJX is itself telling investors to temper expectations as fiscal 2025 gets underway. Specifically, management is looking for same-store sales to moderate from 5% growth to something between 2% and 3%. Taking the midpoint of that guidance, same-store sales growth could fall as much as 50% during the current fiscal year. That might be enough to make investors question the valuation they have afforded this retailer, even as it works to aggressively open new locations.
There's another subtle issue here, as well. As noted above, most of the same-store sales growth was driven by new customers. Why? The answer is most likely that people are trying to stretch their buying power and, thus, shopping at off-price stores more than they have in the past. That's great for now, but if consumers begin to feel more confident again, they are likely to revert to their normal spending habits. That would mean returning to full-price stores, a change that could put downward pressure on TJX's same-store sales.
The bigger problem for investors is that a little negativity can go a long way on Wall Street once a stock's valuation gets stretched. TJX's business is doing well, and the company has proven that it knows how to execute. There's nothing inherently wrong with the business at all. But that doesn't mean that the stock can't fall, since even good companies can go through hard times at some point in their lives. Add in a lofty valuation, and you have a recipe for a material stock market decline. To that end, it is worth pointing out that the stock has seen multiple 25% or larger price pullbacks in its history.
TJX is pricey, but that may change
Given the valuation of TJX's stock right now, it is hard to suggest that investors should run out and buy it. High valuations can linger for long periods of time, but it is probably best to be patient and quell the feeling that you have somehow missed out.
You would be better off waiting until the current run of strong business performance runs its course (which is highly likely at some point) and investors move on to more exciting stories. That will probably lead to a material stock pullback and an opportunity to buy a growing retailer with a solid business at an attractive price point. At the end of the day, overpaying for a good company can, effectively, turn it into a bad investment.
