Why Investors Should Take Profits in Zynga Stock Before Its Earnings

Mobile-gaming company Zynga Inc (NASDAQ:ZNGA) has been on a wild ride over the past year. During the past twelve months, Zynga stock has gone from $3.30, to $4.50, back to $3.30, and back to $4.50. Needless to say, it’s been a roller coaster ride for the owners of ZNGA stock.

This roller-coaster ride won’t end any time soon. If anything, it could get even worse, since the company’s fourth-quarter numbers are due out on Feb. 6.

Heading into that report, Zynga stock is out over its skis. Its valuation is pushing the upper limits of its historical range. ZNGA stock price has rallied more than 30% over the past two months. It’s technically overbought, and it’s way above its moving averages.

In other words, all the good news seems priced into Zynga stock. Sure, there is a chance that the company’s fourth-quarter numbers will blow the consensus estimates out of the water, enabling Zynga stock to continue its torrid run higher. But, all things considered, the likelihood of Zynga stock popping after the company’s Q4 earnings is slim.

As a result, this looks like a good time for investors to take the profits they’ve earned from Zynga stock. Over the long-term, this stock could march higher. But, in the near- term, ZNGA stock needs a breather, and the stock may take that much-needed breather after its Q4 earnings.

This Is a Volatile And Risky Stock

Back in February 2018, I wrote an article calling Zynga stock a high-risk, high-reward play on the fickle but potentially huge mobile-gaming sector. Not much has changed about Zynga’s operating fundamentals since then. Consequently, Zynga still remains a high-risk, high-reward name.

A few years back, Zynga shifted its focus almost exclusively to the mobile-gaming sector. In conjunction with that step, it narrowed its content portfolio, emphasizing games that were different from traditional video-game titles.

This pivot has paid off tremendously for ZNGA. Its user growth, engagement growth, bookings growth, and advertising growth have all meaningfully improved over the past several years. Moreover, its margins have expanded, and its profits have significantly improved.

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The bull thesis on ZNGA stock is based on the idea that Zynga can transform itself into a global-mobile- gaming giant in a multi-billion dollar mobile-gaming industry. That bull thesis makes sense… if you think the mobile-gaming space can continue to grow rapidly over the next several years.

I’m not convinced. Mobile engagement is rising. But a majority of the increase is due to the increased popularity of social media, not gaming. The mobile-gaming market is growing, too, but most of that growth is happening in China, thanks to the increased proliferation of smartphones in that country.

In China, mobile gaming is dominated by Tencent (OTCMKTS:TCEHY) and NetEase (NASDAQ:NTES). Meanwhile, in the U.S., where Zynga rules, there are signs that the mobile gaming market may have already peaked.

In the big picture, it seems like social-media platforms are becoming more multi-purpose than ever before, and in so doing, are taking share away from mobile-gaming platforms. If that trend continues, Zynga’s future isn’t so bright.

Apparently, the market is also concerned about this issue. That’s why Zynga stock has been stuck between $2 and $5 for five years. Until those concerns ease – and they won’t anytime soon – it is highly unlikely that Zynga stock will break out of the multi-year trading range in which it is currently trapped.

Zynga Stock Needs to Cool Down

Right now, Zynga stock is at the upper end of its multi-year trading range. Meanwhile, its price-sales ratio has reached a multi-year high of 4.5, and Zynga is up more than 30% over the past two months, technically putting it in overbought territory, according to the Relative Strength Index.

In other words, Zynga stock is red-hot right now. It’s also arguably overvalued and technically overbought. In light of those conditions, Zynga stock looks poised to pull back in the near-term.

Such a pullback could happen within the next week. Zynga is supposed to report its fourth-quarter numbers on Feb. 6. Those numbers likely won’t be good enough to impress the investors who have pushed the stock up 30% over the past two months. Instead, the numbers will likely be similar to the company’s third-quarter results, which were shaky and featured drops in daily and monthly active users.

If the Q4 results do look like the Q3 numbers, Zynga stock will drop, and not by a little.

The Bottom Line on ZNGA Stock

There is a chance that Zynga will become a long-term winner as the company extends its dominance in the potentially huge mobile-gaming market.

But some big risks could derail that bull thesis, and those risks aren’t going away any time soon. As a result, this rally of Zynga stock looks more like a continuation of the stock’s wild coaster ride than the beginning of a breakout. Consequently, fading the rally ahead of the company’s earnings seems to be the smart move.

As of this writing, Luke Lango was

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