The time to put your feet up and enjoy the S&P 500 making new 52-week highs has yet to arrive; it is far from it. Now that the VIX is at its lowest level since 2019, most stocks will bathe in the bullish sentiment, and a massive profit party will soon be thrown around.
Unfortunately, for some stocks, a bear stampede is out to get them. Lululemon Athletica (NASDAQ: LULU) has been a consumer discretionary favorite in the past year, considering the stock is toying with making new all-time highs. The hopeful bulls are counting on the coming earnings announcement to bring them there, but there's one risk to consider.
Not only have analysts turned sour on the stock, but even insiders have been selling a decent chunk of the stock, perhaps locking in their Christmas profits before a potential downfall. The stock is too good to let go of, so what can you do with this fork in the road?
After landing a strategic deal with Peloton Interactive (NASDAQ: PTON), Lululemon has been expanding its market share and potential audience; not only that, its admission into the S&P 500 has expanded the base of guaranteed buyers of the stock coming from ETFs and other funds like pensions.
So, why would investors be worried after all these massively bullish developments? As any respectable general knows, the enemy is most effective when you are distracted by a celebration's carelessness. Those who understand this may be calling in their chips early.
You see, Michelle Sun Choe, the chief product officer at Lululemon, has sold 27,981 shares as recently as September of 2023. This transaction amounted to a total value of roughly $11.2 million. Could insiders be considering the potential risks of overextending their hysteria?
Maybe that is a too open-ended question; checking the options chain at Lululemon could give you a better idea of where the market is beginning to hedge potential risks. The highest open interest option is a $390 put expiring on December 8th, just a day after the coming earnings announcement.
A high open interest typically means that most market participants are betting on this scenario, which means that most options players are expecting Lululemon stock to decline to $390 a share by December 8th; that's a 16.4% fall!
While the Consumer Discretionary Select Sector SPDR Fund (NYSEARCA: XLY) has beaten the S&P 500 by as much as 12.7% on a year-to-date basis, the party for Lululemon stock is at risk today.
Looks like your king is being checked there, mate; what can you do about this situation? The company generates an industry-leading ROIC (return on invested capital) rate of 28.6%, which can be an excuse to keep buying this stock at any price. However, there is such a thing as overpaying, even for a good thing.
Using the PEG (price-to-earnings-growth) ratio can help you determine whether the price you pay today is worth the underlying growth in earnings to be had in the future of the company at hand. Considering that the sector trades at an average of 0.8x PEG, this benchmark can help you navigate the question.
Lululemon trades at a 2.0x PEG, more than double the industry average. Analysts are shooting for earnings growth in the 15.3% ballpark, which aligns with the industry's expected growth of 15.0%. Barely a reason to value Lululemon at a 36.4x P/E, a premium of 130.0% to the industry's 16.0x average P/E.
Price targets would show a consensus of $448.2 a share for Lululemon, which implies a 4.0% downside from today's prices, so even analysts - who typically back rising stocks - are afraid of sticking their necks out on this one in case it is in fact overextended.
So look, how come a company like Ralph Lauren (NYSE: RL) is expected to push a meager 12.0% in earnings growth while still being valued at a PEG of 1.0x? Analysts would say that its 13.9x P/E is not too high to place a 2.0% upside on that stock today.
This is not to say you should ditch your Lululemon stock and go with an alternative like Ralph Lauren, but it does say that maybe you should hedge your investment by buying those $390 puts as insurance in case the coming earnings do turn out to be a bad thing for the stock.
At $50.0 a contract, the only problem you'll have is not insuring enough of your valuable Lululemon stock!