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3 High P/E Ratio Stocks Still Worth Buying

A high P/E ratio isn’t necessarily a deal breaker. It can simply mean the market expects rapid earnings growth in the future and is willing to bid up the price...

This story originally appeared on MarketBeat

It takes all kinds to make the world of investing go round. You’ve got your traditional assets like stocks and bonds along with a growing list of alternatives. Within each asset class is further categorization by geography, sector, and style. contributor/ - MarketBeat

In the equity asset class, growth and value are two of the most common investing styles. There are many metrics used to define growth and value but the most popular is the price-to-earnings or P/E ratio.

High P/E ratios are associated with growth companies while low P/E ratios are typical of value plays. A stock that has a high P/E ratio is often considered overvalued. That’s because the price per share is high relative to the level of earnings a company generates.

Yet a high P/E ratio isn’t necessarily a deal-breaker. It can simply mean the market expects rapid earnings growth in the future and is willing to bid up the price in anticipation.

Here are three high P/E ratio stocks whose long-term growth prospects make them worth their premium valuations.

Is Square’s P/E Ratio Warranted?

The consensus forecast for Square’s (NYSE:SQ) earnings per share (EPS) in 2021 is $1.71. This means shares of the payment technology provider are trading at nearly 140x current year earnings. That seems like a crazy price to pay, but a look behind the curtain reveals it’s not.

Although Square has been around a while and became somewhat of a mainstream solution for merchants, the company has barely scratched the surface on its long-term market opportunity. It has not one, but two huge markets to grow into—point-of-sale solutions for sellers and the Cash App for individuals. Together these represent a $160 billion market and Square’s penetration in each market individually is less than 3%.

Part of why Square’s P/E multiple is high is because of its impressive 50% gross profit growth rate over the last five years. But its also the massive growth potential ahead. Its current focus is the U.S., but over time expanding into new international markets will drive growth. As the world continues to shift to cashless, digital payments, Square will benefit greatly from making its stock worth paying up for today.

Is Aptiv Stock a Good Buy and Hold?

Formerly Delphi, Ireland-based auto parts company Aptiv (NYSE:APTV) is trading at 66x this year’s EPS estimate. Flip the calendar to 2022 though, and the valuation looks more palatable at 37x earnings. The stark difference is because analysts are expecting earnings to be up 78% next year amid a recovery in the global auto industry.

Aptiv’s specialties are vehicle signals, power, safety systems, and driver consoles. Lately, semiconductor shortages and other supply chain constraints have slowed vehicle production and thereby limited customer orders. But eventually, supply pressures are expected to ease and production ramp back up, leading to stronger sales growth at Aptiv.

As the electric vehicle (EV) theme unfolds, Aptiv is positioned to be a major player through the manufacturing of new technology like EV safety systems and connected services. Looking further down the road, autonomous mobility will be another big growth catalyst. Aptiv’s autonomous vehicle partnership with Hyundai is expected to produce some innovative technology that can be sold to driverless fleet operators and robo-taxi providers.

So, Aptiv looks expensive now, but given the multiple growth engines ahead, it is well worth a test drive.

Is ADTRAN Stock a Buy?

ADTRAN (NASDAQ:ADTN), the maker of Internet access products for telecom carriers and businesses, is trading at 82x this year’s earnings. That seems like a steep price to pay for a company that is projected to grow its bottom line by a modest 18% in 2021. Fast forward a year, and things look much better.

Analysts estimate that 2022 EPS will be up more than 150% which makes the 82x multiple looks not so bad. A 32x multiple on next year’s earnings doesn’t make ADTRAN a value play, but this $20 stock still seems like a bargain.

In the near-term ADTRAN will have to work through supply chain issues and increased logistics costs. But underneath the surface is strong demand for its products. In last quarter’s earnings, call management noted it is experiencing “unprecedented” demand and that third-quarter bookings rose to record levels. This means that once supply constraints and inflationary pressures ease, margin trends should improve.

Increasing global demand for fiber-based broadband access should keep ADTRAN’s customers coming back for more. This demand could reach a whole other level if world governments can advance their goals of providing high-speed connectivity to all. This would entail deploying the technology to rural areas which is a space in which ADTRAN excels.

This week ADTRAN shares received a big vote of confidence from Northland Securities. The analyst there boosted his price target from $25 to $35 which implies over 60% upside from current levels. The upgrade is a good example of why investors should sometimes look past the lofty P/E ratio to see the future catalysts ahead.