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This hot stock has smashed the FTSE 250. Here’s why I think it’s time to take some profit

Buy low, sell high(er) – that’s successful investing a nutshell. But knowing when to part with your top-performing holdings is tricky. The greater the profit, the more the twin emotions of greed (“can I make even more?”) and fear (“am I about to lose all my gains?”) begin to pull on us.

With this in mind, today I’m turning my attention to high street baker Greggs (LSE: GRG). After a period of strong performance, is it time to bank some gains and channel the cash into something more unloved? I think it could be.

Tasty profits

Since late July last year, shares in Greggs have climbed 66% in value. For comparison, the FTSE 250 index — of which the £1.6bn-cap is a member — is down a little over 10%.

That’s not to say that those invested in the latter through an index tracker or exchange-traded fund are doing anything wrong, of course. Having a portfolio stuffed full of these kinds of passive investments would be logical for a lot of people who don’t have the time to research specific companies. Nevertheless, Gregg’s run of form is another example of how taking on more unsystematic risk through stock-picking has the potential to pay off.

What’s even more impressive is that all these gains occurred during what was, and still is, a particularly uncomfortable period for many companies with exposure to the high street.  

Let’s recap on the company’s very reassuring trading update for the fourth quarter of its financial year, released earlier this month.

Like-for-like sales rose 5.2% over the period with Gregg’s succeeding in luring more customers through its doors with its Festive Bake and mince pies. The new vegan sausage roll has also proved a massive hit.  

Combined with figures from the previous three quarters, total sales rose 7.2% over the 2018 financial year and company-managed shop like-for-like sales grew by 2.9%

As a result, underlying pre-tax profit for the year to 29 December is now predicted to be “at least” £88m — slightly ahead of what management had previously forecast.  

Great company, expensive stock

Clearly, Gregg’s strategy of focusing on the food-on-the-go market has paid off. And while political and economic concerns aren’t going anywhere just yetdemand is unlikely to dry up overnight in the same way that it might for companies relying on more discretionary spending.

This is why I stayed positive on the stock when shares dipped back in May last year, and why I continue to stay positive on the company today. The balance sheet remains solid and the dividend, while not exactly big (2.35% yield for 2019), should be fully covered by profits.   

No, for me, it’s all about the company’s current valuation. Following its stellar run, stock in Greggs trades on almost 22 times earnings for the new financial year. That’s not ridiculously excessive compared to some stocks, but it does suggest that an awful lot of positivity is already baked into the price.

Earnings per share growth of a little over 6% in 2019 also gives the stock a price-to-earnings growth (PEG) ratio of 3.2, according to Stockopedia. As a rough rule of thumb, that number should ideally be 1, or lower, in order to get the most bang for your buck.

As such, I think it may be an idea for holders to (temporarily) leave the party while they’re having the most fun. 

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Paul Summers has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.