This is the only stock we added to during the recent Nasdaq selloff — and it remains stunningly cheap

For much of the past two years, the bulls have been firmly in control of Wall Street. Stock fed sweeper Dow Jones Industrial Averagelandmark S&P 500 (^GSPC -0.20%)and based on innovation Nasdaq Composite (^IXIC -0.33%) all set multiple records this summer.

But as the first three trading sessions of August reminded us, stocks rarely, if ever, move up in a straight line.

While growth stocks undoubtedly led this rally, it was the Nasdaq Composite that really took it on the chin to start this month. Over a period of three sessions, the index fell by just over 1,400 points, or about 8% of its value. As of the closing bell on Aug. 5, the Nasdaq was 13 percent below its all-time high.

Image source: Getty Images.

Stock market corrections usually give long-term investors an opportunity to open positions or increase their stakes in amazing businesses at a reduced price. But with stocks being historically expensive, investors (myself included) have been more selective with their purchases.

Given that history is not on Wall Street’s side, valuation-wise, there’s only one stock I took the opportunity to add during the recent Nasdaq selloff.

Caveat emptorinvestors

Before I delve into the juicy details that led me to add to one of my top holdings during the Nasdaq selloff, I think it’s important to address why I’m so selective about my stock purchases right now.

During bull markets, it is not uncommon for investors to pay a premium for growth stocks. In fact, the democratization of information over the past three decades (thanks, Internet!), coupled with historically low interest rates for much of the past 15 years, has increased retail investors’ appetite for risk. This includes buying stocks with a huge price-to-earnings (P/E) ratio.

Sometimes well above average P/E ratios can be justified. For example, companies with well-defined competitive advantages and/or sustainable moats typically command valuation premiums to their industry peers.

But when examining the broader market as a whole, extended valuations are rarely, if ever, a good thing.

S&P 500 Shiller CAPE Ratio data by YCharts.

The S&P 500’s Shiller price-to-earnings ratio provides the best example of what happens when stock valuations deviate too far from historical norms. The Shiller P/E is also known as the cyclically adjusted price-to-earnings ratio (CAPE ratio).

Unlike the traditional P/E ratio, which takes into account earnings over the past 12 months and can be disrupted by one-time events (eg, the COVID-19 lockdown), the Shiller P/E is based on inflation-adjusted earnings versus the previous ones. 10 years, which helps smooth out corporate profit “hiccups”.

When tested back to January 1871, the average P/E multiple for the Shiller P/E of the S&P 500 is 17.14. On August 19, the Shiller P/E closed above 36 and didn’t fall much below 33 even during the worst selloff to begin this month.

Including the present, there have been only six occasions in the past 153 years that the Shiller has exceeded 30 during a bull market rally. Following the previous five instances, the Dow, S&P 500 and/or Nasdaq Composite ultimately lost between 20% and 89% of their value.

In other words, the Shiller P/E is warning investors that stocks are historically expensive—and I tend to be a student of Wall Street rhyming history.

Image source: Getty Images.

This high-growth, cash-rich, small-cap stock was my only buy during the Nasdaq selloff

Even with the Nasdaq retreating by double-digit percentages in less than a month, I haven’t struggled at all to put my money to work — with one exception.

Instead of adding to any of my “Magnificent Seven” stocks, the only stock that caught my eye during the Nasdaq selloff is an under-the-radar small-cap adtech company. PubMatic (PUBM -0.76%).

Although negative market sentiment weighed on PubMatic shares during the first few trading sessions in August, the company’s second-quarter operating results — and more specifically full-year guidance — sent shares lower.

PubMatic CFO Steve Pantelick pointed out that one of his company’s largest demand-side providers (DSPs) in the programmatic ad space changed its bidding process in the second quarter. This change will result in slightly less revenue recognition in the remainder of the year. As a result, PubMatic’s full-year sales outlook now calls for revenue of $288 million to $292 million, down from a prior average forecast of $300 million ($296 million to $304 million).

That roughly 3% drop in sales in the middle wiped more than 30% off PubMatic’s market value. More importantly, it offered a price dislocation that was too tempting for me to ignore.

The most important thing to note about the PubMatic revenue “rate” is that this will not be an ongoing problem, nor was it unexpected. In an interview with Schwab Network following the company’s Q2 results, PubMatic CEO Rajeev Goel pointed out that this large DSP was the last major DSP to make this auction conversion. Beyond this single customer, the vast majority of PubMatic’s sales channels enjoyed double-digit growth.

With this headwind dragging the company’s stock down more than 30%, we resolve, let’s research many reasons why PubMatic’s point-of-sale provider (SSP) makes a genius buy.

Let’s count the many ways PubMatic makes for a no-brainer purchase

For starters, it’s at the heart of the fastest-growing niche in the advertising industry: digital advertising. Companies are constantly shifting their advertising dollars away from traditional print and billboards and into digital channels, which include mobile, video and connected TV. PubMatic is ideally positioned to help publishers sell and optimize their digital display space.

PubMatic also has macro winds in its sails. Although recessions are a normal and inevitable aspect of the economic cycle, history shows us that this cycle is not linear. While three-quarters of all American recessions since the end of World War II have resolved in less than a year, the vast majority of economic expansions have lasted for several years. Being patient tends to be a recipe for success in ad-based businesses.

On a more company-specific basis, PubMatic’s biggest advantage might be that its management team didn’t take the easy way out and chose to build its cloud-based programmatic ad platform. Not having to rely on a third party for this platform will allow the company’s operating margin to grow at a higher rate compared to other SSPs.

PUBM Cash from Operations (annual) data by YCharts.

Additionally, PubMatic is working on its 10th consecutive year of positive operating cash flow and is sitting on a mountain of capital. Ended June with $165.6 million in cash, cash equivalents and marketable securities, net of debt. Not only does this cash provide a lot of financial flexibility regardless of what happens to the U.S. economy and Wall Street, but it allows the company to buy back $100 million worth of common stock by July 31. Share buybacks tend to have a positive impact on earnings per share, which can make a company more attractive to fundamentally focused investors.

The last piece of the puzzle with PubMatic is its rating. While the P/E ratio works great for mature businesses, cash flow is the best valuation metric when looking at fast-growing companies that are aggressively reinvesting in their platforms.

As of the closing bell on Aug. 19, PubMatic shares were valued at 8.3 times Wall Street’s consensus estimate of cash flow for 2025. That’s a 38% discount to the forward cash flow that it paid more investors at the end of 2023.

Additionally, PubMatic’s cash, cash equivalents and marketable securities represent 24.3% of its market capitalization. If we take that equity out of the equation, PubMatic’s operations are valued at more than 6.3 times annualized cash flow, with a sustained rate of double-digit sales and earnings growth. It’s a stunningly cheap stock that I happily added during the Nasdaq selloff.