Michael Kors

5/5/12 

           

This week I first want to start out by apologizing for my pick two weeks ago when I recommended buying Green Mountain Coffee Roasters.  While I did get out of my call option the day before the earnings came out since I had a 40% gain, I got this one completely wrong as GMCR lost 50% in one day. 

For now, I do want to reiterate that on the back of the second straight horrendous employment data that we got on Friday, you still need to be long US Treasuries in the form of the TLT, which closed at the highest levels since late January.  With the S&P 500 closing below 1750 and Nasdaq closing below 3000, I see continual downside for the stock market and upside for the treasuries.  The yield on the 10-year closed at all-time lows of 1.880%.  Additionally, whether it makes logical sense or not, the stock market and crude oil are trading hand-in-hand and with crude prices heading to $90/barrel, there is a lot more downside risk to the stock market than upside risk.

Before I get into this week’s recommendation, I want to talk a little bit about sound investing.  The stocks that I have recommended and do recommend are not trades unless I specifically say that is my intention.  When I make a recommendation, I want you to buy the stock and hold it longer term.  I understand it’s difficult to define “long term,” because that will be different for each individual investor.  For most people, “long term” would be for one year or longer, however sometimes you need to know when to take profits or cut your losses earlier.  For instance, if you get a windfall profits (a 10% gain in a matter of days), you may want to take the money and run, as I did with GMCR.  While the stock could easily continue to go higher, you don’t want to be the last one taking profits.  While this strategy may not maximize your returns, the old adage is that you never go broke taking a profit.  Equally important is managing your risk properly.  By this I mean if you find yourself down 3-5% within a couple days of buying the stock, you may want to get out and look for a better entry point or forget the stock altogether.  The most important rule to investing is to ride your winners and cut your losers.  One of the biggest mistakes that investors make is ADDING to their losing positions, which begets even more loses.  If you want to add to a position, why not add to a winner?  That losing position was wrong from the start, so why would it all of a sudden be correct, now that it’s sold off even further?  The thing to remember is that no matter what, you can always get back in. 

            With all that being said, being a technical trader, it’s getting harder and harder finding stocks that look technically strong.  Even the almighty Apple looks like it’s going to break down below $550.  In a down market, I continue to like stocks that pay a nice dividend and have good growth potential.  In this particular market, stay away from the tech leaders that have rallied all year, (i.e. Apple, Intel, Microsoft, IBM, etc…).  If you need proof as to how influential Apple is on the broader market, the stock accounted for 49 of the 71 point move in the Nasdaq following Apple’s blowout earnings a couple weeks ago.  Since then Apple has sold off about 12%, and the Nasdaq sold off about 3%.  What led the market on the way up, will lead it on the way down. 

Seeing as how most of the dividend stocks I like have run up too much already, this week I am recommending a stock as a long term play that does not pay a dividend and has only been around for about five months, that stock is Michael Kors (KORS).  Before I get into why I like it so much, I want to fully disclose that this stock has been on a wild ride ever since early April and can easily move 3-4% in a day.  But what attracted me to KORS is after gapping up on February 14 the stock has never looked back and is currently trading at $43.80, more than 12% off all-time highs.  I do not advise getting in right now, but instead waiting for a bigger pullback (more on this later). 

            Michael Kors Holdings Limited engages in the design, marketing, distribution, and retail of branded women’s apparel and accessories, and men’s apparel. The company sells its products primarily under the names of Michael Kors.  KORS is currently trading at a very high multiple of 45X forward earnings, but with such high growth potential, I think it’s worth every penny.  At the end of Q1, KORS had 231 stores open, with 75 of them being opened in the last year.  They recently reported that same store sales (sales of stores open 12 months) grew 35.8% and raised their Q2 guidance to $0.14-$0.16/share from $0.10-$0.12/share.  Kors also raised its fully year guidance to $0.79-$0.81 from $0.74-$0.76, with revenues topping $1.28B.  On the same conference call, management reiterated its belief it can open 400 total locations with 100 in Europe and another 100 in Japan, two markets it sees great growth opportunities.  Right now is a great time for luxury retailers as evidenced by strong sales from Coach, Nordstrom, Ralph Lauren, etc…, and I think Kors is right there with them. 

            Kors sports a market cap of about $8B, with $105M in cash on hand and only a measly $15M in debt.  While its still early for the stock, its shown quarterly revenue growth of about 67% and earnings growth of 40%, much larger than competitors, Coach and Ralph Lauren to name a few.  Gross margins came in last quarter at about 54%, much higher than the industry average of 42% and operating margins of 19% topped the average of 9%.  Currently only eights analysts cover the stock, but three rate it a strong buy and the other five rate it a buy, with an average price of $53, a more than 20% gain from Friday’s close. 

            Taking a look at the technicals, there really isn’t a whole lot to work with since there’s only five months of price data, but using Fibonacci numbers, you seen see there is clear support and resistance levels for this stock, giving you a good reference point to enter and exit the stock.  On April 23, the KORS traded down to the 61.8% retracement of $40.31, only to rally sharply and close up almost 9%.  That marked the first time since February that the stock traded that low, so I would use that level as support.  The next two days of price action retested that $40 level, but failed both times, only to rally 20% in the next seven trading days.  It has since pulled back with the overall market, but still, well above the 61.8% retracement.  It’s very clear that if KORS drops below $39.73 (April 23 low), there is nothing to support it, as a break away gap was put in on Valentines Day when the stock soared 22% on a strong Q1.  So a good use of your stop would be to exit the stock on the downside at $39.50, a price I don’t see it getting to.  Kors doesn’t report Q2 earnings until next month, giving it plenty of time to rally to my price target of $52. 

            Now, there are a couple ways to play this stock.  First and foremost, do not buy at market open on Monday.  In fact, never buy anything at the open.  I recommend always waiting at least 20-30 to let the market sort itself out at the open before pulling the trigger.  Had you done that last Monday with Starbucks, you would have been able to buy the stock at $57, instead of the opening price of $57.43, saving yourself 1%.  With that being said, I expect the market to continue its self off on Monday, so wait for the stock to come in a little bit and buy it around $41-$42.  That will limit your risk to the downside of only a few percent and maximize your possible returns to the upside.  The second way I recommend playing the stock is through call options.  If you don’t understand options or are capable of trading options in your account, then just stick with the actual shares.  I recommend taking a look at a deep in the money June call, namely the June 35 calls, trading at $9.60.  That allows you to control 100 shares for $960 (with that being your maximum loss) instead of buying 100 shares outright for $4300.  To make all $960, KORS will have to close at or above $44.60 on June 15, which is only about a dollar higher than it’s currently trading at.  Do however keep in mind that Michael Kors reports Q2 earnings on June 12. 

            Full disclosure: I currently hold no positions in KORS, but plan on buying the June 35 calls on Monday.