Every trade is a bit different but for this specific one, the objective was fairly clear. Getting short The Knot (KNOT) which has just released earnings and I got the confirmation that I was looking for. That this particular stock is expensive, too expensive. Now, the Knot is a fairly unique company and finding the right stock to trade against it was not as easy as you could imagine. Ideally, I would have gone short against another web content company such as WebMD (WBMD) but that company did look a bit expensive which made it less tempting.
Because of that, I decided to take another angle looking for stocks that had a very high P/E ratio, ideally over 40 like The Knot. Baidu was a stock I had been hesitant to trade this year but I finally got over it and decided to do the trade!
Before getting started, here are the main numbers that I used to decide on this trade:
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No big surprise to see that Baidu has a better trend analysis score, the company has continued to display very solid growth with no real competition in China.
Long Baidu (BIDU)
Baidu is a very interesting stock to trade given its huge presence in China where it is running what is almost a monopoly following the decision by Google to go at war with the Chinese government. It’s difficult to say how the decision will turn out but so far things have not gone so well for Google which has left Baidu all alone in the fastest growing market in the world. That has helped Baidu achieve impressive growth and I personally think it will be able to keep up the growth for some time in the future as the Chinese internet population continues to grow and as the Chinese middle class becomes bigger online consumers. There are many ways to put it but I think that having a P/E ratio slightly over 40 for next year is far from an exaggeration and it looks like a good medium term buy.
On the other side, the Knot is a mystery to me. The stock trades at a P/E similar to Baidu’s at over 40. But while Baidu continues to generate very high growth (revenues are up 76% year over year), the Knot has displayed no growth for a long time and continues to display flat revenues. The economy has certainly been a factor but I think there is much more. The Knot is spread across its properties and it’s unclear to me what their strategy to generate more growth is. I simply do not see it. One potential issue is that the company could be purchased at a premium by someone like AOL. But The Knot is spread among so many properties (both online and offline) that buying it is more complex than the usual Yahoo or AOL acquisition.
I would caution using the traffic data from compete.com for Baidu because it is less reliable for Chinese websites from what I know, but overall the traffic looks up significantly from last year while the Knot is flat… not so surprising is it?
Just take a look at the charts for both companies: