A few days ago, I explained how I use my IDEAL Stock Rating System to identify undervalued stocks. My system scores every stock in the S&P 500 based on three factors on a scale of 0 – 10.

What I did not discuss in that article is that my system can also identify overvalued stocks. That’s important because there are ways to profit from this knowledge that I will share with you in a moment.

Presently, there are 18 companies in the S&P 500 that do not earn a single point from my IDEAL Stock Rating System. That means they pay little or no dividend, have declining cash flows, and yet trade at a premium to their sector peers as measured by their forward price-to-earnings ratio (FPER).

The List

Historically, stocks that possess this “unholy trio” of traits are overvalued and vulnerable to a quick sell-off. A little bit of unexpected bad news can send their share prices tumbling.

For example, in January my system flagged electric vehicle manufacturer Tesla (NSDQ: TSLA) as grossly overvalued when its share price peaked above $350. At the end of May, it was trading below $190. That’s a 45% decline in less than five months!

Admittedly, Telsa is an extreme example of a stock that was poised to plunge. The erratic behavior of its mercurial founder, Elon Musk, was wearing thin on Wall Street so that was an easy call to make.

Less easy to make was my prediction three years ago that Netflix (NSDQ: NFLX) had become overvalued. Wall Street loved Netflix and felt it could do no wrong, but my IDEAL system said otherwise.

A few weeks later, the company released quarterly results that came up short of expectations. Within a matter of days, NFLX dropped 15%.

Timing is Everything

You could have made a lot of money by selling Tesla and Netflix short at the right time. Of course, you also could have lost a lot of money if you did it at the wrong time.

That’s why you need to have a timing element as part of your trading process. Some stocks can stay overvalued for a long time until an event triggers a landslide.

That’s why I have included each company’s earnings date in the table above. More often than not, bad news often comes in the form of an unexpectedly weak quarter that catches Wall Street by surprise.

And since the second quarter just ended, all but one of these companies will be releasing their next set of results within the next four weeks. I suspect more than a few of them will disappoint the market this time.

For my money, the best way to profit from an overvalued stock is to buy a put option on it that is slightly out-of-the-money. That means the option’s strike price is a little below the current price of the stock.

A put option increases in value as the price of the underlying stock goes down. Therefore, you want to buy the option on a day that the stock is trading up to minimize the premium that you pay for it.

Of course, there is always the risk that the stock may continue to rise in which case your put option may become worthless. That’s why I prefer to spread my money over several stocks instead of betting big on just one of them.

If that approach is too risky for you, my colleague Jim Fink employs a more conservative system that he has used with phenomenal success. Jim’s investment system hands out a regular weekly payment to his followers, sort of like a “paycheck” that they can count on, week in and week out.

We’ve just released Jim’s new presentation. It explains how investors just like you can use one simple technique to earn steady income payments of $1,150, and $1,500, and even $2,800… every single week.

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