2 Stocks to Watch Because the Market Overreacted

A Whole Foods Market in Dallas.
Donna Mcwilliam
A Whole Foods Market in Dallas.

Whole Foods Marketmight be the most perfect stock in what is, by any measure, an imperfect market.

The stock just keeps on going up, with natural pullbacks — basically buying opportunities — here and there. But it’s not just the trajectory of the stock that’s incredible, it’s the near-flawless execution of the business.

On Wednesday, Whole Foods announced that it beat EPS estimates, saw revenue rise by 14 percent year-over-year, and posted same-store sales growth of 8.2 percent in the most recent quarter. Guidance comes in healthy and the company intends to continue full-steam ahead with what is easily one of the best examples of footprint expansion in any area of retail.

The day before Whole Foods turned in a strong quarter, Panera Bread did the same. Starbucksreports Thursday. While I don’t think we absolutely need to see equally-as-impressive results from Starbucks to prove the following point, it would help.

Investors overreacted to Chipotle Mexican Grill’s. I cannot believe Chipotle’s peers will continue to grow, yet its days of solid forward motion are over.

While I tend to agree with the caution TheStreet’s Jim Cramer urged on his “Mad Money” television program Monday night, I’m not quite as down on the business.

Cramer’s right, for the time being, Chipotle is a broken momentum stock. But all it takes is one impressive earnings beat to regain investor faith. In other words, proceed with caution, but do not write off a company that plans to expand by about 160 locations in 2012. Chipotle has barely scratched the surface on international expansion, as well as its Asian restaurant concept.

I concur with Cramer — $270 looks like a good price for the stock. If you have the cash to support the trade selling a Chipotle September put somewhere in that $270 range on further weakness could make sense as a way to possibly establish a long position.

Zynga Meltdown

I’m not sure I have ever witnessed a meltdown as bad as the one Zyngaturned in on Wednesday afternoon.

First, I have to give a guy I have not always agreed with some credit. Richard Greenfield of BTIG Media sounded — and please pardon my French, but there’s no better way to illustrate this — pissed off when he asked Zynga CEO Mark Pincus several questions on the conference call.

Greenfield wondered why in the world Zynga did not pre-announce when it was set to miss quarterly EPS by a nickel and fall short on revenue by about $12 million, not to mention guide fiscal year EPS down by a whopping 20 cents or so.

Zynga’s CFO provided a lame answer to Greenfield: We did not warn because we only guide yearly results, not quarterly. That’s not OK. In fact, it’s absolutely absurd.

Greenfield also questioned the timing of insider stock sales and received a non-answer. He blasted executives for claiming that the second half of the year would be stronger than the first, only to provide such weak guidance. And he pointedly asked Pincus, what would you say to somebody to convince them to buy your stock?

As much as I appreciate what Greenfield did, I think he, along with the rest of the market, overreacted by knocking the stock down by approximately 40 percent in after-hours trading. Greenfield even issued a note with the subject heading: “Downgrading Zynga to Neutral: We Are Sorry and Embarrassed by Our Mistake.”

It’s one thing to be a standup guy, it’s entirely another to abandon what is still ultimately solid long-term conviction.

As Greenfield said himself earlier this year with Zynga falling, people are acting like this company is about to go out of business. That’s not so.

The truth of the matter is that Zynga has no debt, about $1.6 billion in cash and annual revenue of over $1 billion. It has first-mover advantage in social gaming and continues to follow its users over to mobile.

Businesses do not get built overnight, particularly during the transformational times we live in. The move from desktop to mobile might be one of the most important and drastic changes of our generation. Investors should not be surprised by hiccups along the way.

I will wait for the dust to settle and continue adding to my long position in the stock.

Because everything else was so bad, analysts and investors seemed to ignore the announcement that, upon obtaining proper licensing, Zynga will begin real-money gaminginternationally in 2013.

While it says it has no plans pending in the U.S. because of the relatively tight regulatory environment, expect that to change as more states pass legislation to allow Internet poker within their borders.

If Zynga’s board is smart, it will nicely ask Pincus to wear a muzzle. Prohibit him from conference calls and never allow him to speak to analysts or investors again.

Even though he, at the moment, owns more than 50 percent of Zynga’s stock, he should agree to this for the good of the company.

I love Pincus. He is a brilliant visionary. When he speaks, I get what he is saying. I have confidence that he sees the future and can properly guide Zynga there.

That said, to put it nicely, he’s socially awkward at best. When he speaks in high-pressure situations, particularly to analysts and investors, he comes off as imprecise, uncertain, and uncomfortable with himself, with others, and with what he is trying to say. That’s just who he is. But, it’s not the kind of show you want to put on for people, particularly as your company attempts to navigate turbulent times.

Pincus, like many other company founders and leaders, does not belong on conference calls. That’s not his thing. At Zynga, having him speak publicly as much as he has over the last few months is actually a liability. It has to stop.

In any event, I don’t expect Whole Foods-like performances from most companies. Not Chipotle and definitely not Zynga. If Starbucks misses tonight, I sure as heck am not ready to write them off either.

I feel like I have matured as an investor. I sat back and watched the Zynga hysteria unfold Wednesday evening, but I did not overreact. My blood pressure stayed low, my resting heart rate slow and steady.

Investors love to cite quotes such as, “Buy when there’s blood in the streets” and “Buy when others are fearful.” When the time comes to do that, however, they find it incredibly difficult to walk the walk.

I am more than willing to take a loss, but I see no reason to do it when the long-term — measured in years, not days, weeks or months — story of a company remains intact.

In the words of a great rock lyricist, “Someday we'll look back on this and it will all seem funny,” and hopefully we’ll all be a lot wealthier.

—By TheStreet.com Contributor Rocco Pendola

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TheStreet’s editorial policy prohibits staff editors, reporters, and analysts from holding positions in any individual stocks. At the time of publication, Rocco Pendola was long Zynga.