There’s no doubt DraftKings (NASDAQ:DKNG) is going places. As U.S. states continue to legalize sports betting, the sportsbook giant has a massive growth runway. This means strong prospects for DraftKings stock long-term.
With investors betting on this “story stock” hand-over-fist, shares have moved up too fast, too soon. Today’s valuation prices in near-term growth. And then some.
The novel coronavirus may have put sports on hiatus. But with the NFL planning to hold games as scheduled this fall and the NBA starting back up as well, professional sports is coming back in a big way.
With more Americans now able to legally bet on the games, the company could see strong numbers during what’s typically the sports betting industry’s “busy season” (September through March).
Yet, that doesn’t mean shares are a screaming buy at today’s prices. Up more than three-fold since April, DKNG stock is “priced for perfection.” In other words, if results fall short of expectations, expect shares to fall back from today’s frothy prices.
Don’t take that to mean this is a stock to bet against. With first-mover advantage, name recognition, and pent-up demand post-coronavirus, DraftKings is a story stock worth considering on a pullback.
Why DraftKings Stock Could Move Even Higher
Sports betting stocks have become “too hot to touch,” but the U.S. sports betting market is just getting warmed up. Since the 2018 Supreme Court decision that gave all 50 states the option to legalize sports gambling, only a handful so far have made the leap.
With DraftKings aggressively building up market share in these states, the company has a clear first-mover advantage, as more states legalize sports betting. And don’t forget the company’s past life as a fantasy sports operator. Their prior business model provides an existing customer base to market its budding sportsbook operations.
Yet, longtime rival FanDuel (OTCMKTS:PDYPY) has a similar edge, pivoting from “Daily Fantasy” to sports betting as states lift restrictions.
Also, Penn National (NASDAQ:PENN) is making big moves into the market with a Barstool Sports-branded offering. Other global betting giants like William Hill (OTCMKTS:WIMHY) have set up shop as well. In short, DraftKing’s ascension to dominant sportsbook operator is not set in stone.
Nevertheless, this probably won’t hurt DKNG stock in the short-term. This is one of the few pure-play sports betting stocks out there. Sure, you can buy PENN, but there’s good reason why you should avoid that stock. Other rivals? They largely trade on the over-the-counter markets, limiting their appeal to institutional and retail investors.
In short, buying DraftKings stock is the only way for most investors to bet on this trend. This means shares could continue to rise way beyond a reasonable valuation. But, it’s possible investors could soon fall out of love with the “story” behind this “story stock.”
“Priced For Perfection,” Shares Could Easily Turn on a Dime
Sure, DraftKings stock has high levels of projected growth. Analyst consensus estimates revenue to climb from around $457 million in 2020, to about $718 million in 2021. In other words, around 57% annual projected sales growth. However, don’t expect profitability anytime soon.
Estimates call for the company to post losses both this year and the next. Granted, like with other “hot stocks,” these near-term losses are acceptable. As long as the growth train remains in motion. As valuation reaches frothy levels, the risk/return proposition is fast moving out of your favor.
How so? Shares today are “priced for perfection.” With the recent run-up in its share price, the company has to meet or beat high expectations, or else its share price is going to fall back to past price levels.
Granted, with professional football and basketball slated to start later this year, it looks likely DraftKings can live up to the hype. But things could turn on a dime. As our own Matt McCall discussed June 10, there’s still a chance we see a “second wave” of coronavirus. This could impact the NFL and NBA’s tentative 2020 schedules.
Also, investors may be overestimating the potential market size for legalized sports wagering. As this commentator recently noted, legal U.S. sportsbooks still face competition from illegal U.S.-based bookies, along with offshore betting sites. In short, there are many risks to consider before diving into this stock at today’s prices.
Buy DraftKings on a Dip, But Sit Tight Until Then
With first-mover advantage and name recognition, I wouldn’t bet against this company as sports betting becomes legal from coast-to-coast. But, keep in mind today’s valuation. “Priced for perfection,” shares could take a big dive if results fall short of expectations.
So, what’s the play? Consider DraftKings stock if shares take a dip, but until then, stay on the sidelines, as today’s valuation puts the odds out of your favor.
Thomas Niel, contributor to InvestorPlace, has written single-stock analysis since 2016. As of this writing, Thomas Niel did not hold a position in any of the aforementioned securities.