Trade Idea – $NKE: Other Shoe To Drop?

by Dan December 15, 2015 12:31 pm • Commentary

Event: Nike (NKE) reports fiscal Q2 results Tuesday Dec 22nd after the close.  The options market is implying about a 4.25% one day move following results, which is shy of the 4.8% average after the last 4 quarters, and below the ten year average of about 4.9%.  

Price Action / Technicals:  On November 19th the company announced a $12 billion / 4 year share buyback authorization when the existing $8 billion plan is completed, and a 2 for 1 stock split that will go into effect on Dec 24th. The stock jumped 5.5% the next day on the news, resulting in a new all time high within a couple days and is now below those levels.

The one year chart below shows the uptrend that was briefly interrupted by the late summer stock market swoon, but has since held trend from its August 25th close.  A break of the trend would make a re-test of $120 on the downside very likely:

[caption id="attachment_59298" align="aligncenter" width="600"]NIKE 1yr chart from Bloomberg NIKE 1yr chart from Bloomberg[/caption]

Valuation: NKE is up 34% year to date, trading 32x trailing earnings that grew 25%.  But earnings growth is expected to decelerate this fiscal year to about 16%, and the stock trades nearly 2x that expected growth at 30x.  On a trailing basis the stock’s P/E is at a 16 year high:

[caption id="attachment_59299" align="aligncenter" width="544"]NIKE 20 year P/E chart from Bloomberg NIKE 20 year P/E chart from Bloomberg[/caption]

Implied Volatility Snapshot: Short dated options prices are above levels prior to the last 4 earnings report, as options buying following the buyback announcement have pushed up 30 day at the money implied vol to about 32%, very near the highs from August when the stock suffered its steepest correction since the financial crisis:

[caption id="attachment_59300" align="aligncenter" width="600"]NKE 1yr chart of 30 day at the money implied vol from Bloomberg NKE 1yr chart of 30 day at the money implied vol from Bloomberg[/caption]

My Take: there seems to be no shortage of enthusiasm surrounding NKE’s opportunity in the growing ath-leisure segment and the expectations of strong futures orders into the Olympics this summer in Rio.  Yesterday Cowen & Co raised their estimates and targets on the stock, per Barron’s:

We are raising our second quarter EPS estimate to $0.89 from $0.83, above consensus of $0.85, driven by 13% constant currency revenue growth, in-line with guidance. We think the drivers of upside are: 1) continued ASP and unit growth given innovation pipeline and demand for the brand; 2) worldwide futures growth was a robust 17% in first quarter of 2016, with Greater China and W. Europe at 20% or more and North America at or above 15%; and 3) gross margin outlook appears conservative up 25 basis points, as ASP growth and beneficial mix shift trends should drive gross margin higher. Footwear ASPs are up 8% and apparel are up 2% on a trailing four-quarter basis. We assume futures up 17% (+8% in ASP and 9% in units) with the two-year trend of 28% vs. 31% in the first quarter. Nike futures on a two quarter lag exhibit a 80% correlation to sales.

I guess I’ll just say the Bull case is fairly well known, Wall Street analysts are in love with the stock with 27 Buy Ratings, only 6 Holds and NO Sells, and the valuation to the market, its peers and its own history reflect this enthusiasm.

So how it play out?

Bullish: If the company were to issue a beat and raise, then the stock gaps again to new highs into next week’s split, which always seems to get investors excited.

Bearish: If the company were to issue an in-line qtr or a miss, and conservative guidance then the stock is down at least inline with the implied move and tests $120 in the coming days.

Neutral: everything in line with consensus and the stock is up or down a little and closes near the highs of the year.

It’s too early to pick strikes on this as the broader market has a chance to move NKE away from any trades initiated between now and right before the earnings. We’ll circle back next week.