Nike (NKE) has had a good run lately — perhaps too good.
Nike is one of those companies that just keeps growing, keeps on innovating and knows how to keep its customers excited. In that respect, it’s a lot like Apple (AAPL). But there’s a big difference between them.
With NKE, all the good news is already baked in, and that leaves plenty of room for disappointments that can lead to corrections. Heading into Nike’s earnings, it seems disappointment might come sooner than expected.
NKE Stock Is Overvalued
Nike stock is trading at a very high premium. One could argue that some stocks consistently trade at a premium to their peers because of superior performance. But not only is NKE trading at a premium to its peers, it’s trading higher than its own historic valuation.
When we take a look at the price-to-earnings ratio, an interesting picture emerges.
As Morningstar data reveals, NKE is trading at its highest P/E ratio in 10 years. In other words, NKE is trading at a premium to its own historical premium. That means that expectations from NKE stock are at a decade high — a great recipe for a correction.
What Could Go Wrong?
Nike’s business performance is impressive, with revenues and net income on the rise, so what could actually go wrong for NKE stock? For starters, Nike has substantial exposure to China and emerging market economies.
When compiling data from NKE stock latest earnings report, we can conclude that roughly 23% of Nike’s revenue comes from those two regions.
The crisis in China could potentially escalate. And emerging economies — like Brazil and Russia — are already hip-deep in the mud. Would it seem too far-fetched if Nike earnings for those regions undershoot? It certainly would not.
Moreover, cyclical consumer trends or changing fashion trends could always sneak in and hit sales momentum. After all, consumer tastes are fickle and a bit of a wild card in the fashion and sportswear industry.
NKE Stock: What’s the Strategy?
As earnings are due later this week, the risk of a disappointment makes the strategy simple.
If you own NKE stock now, then it’s a no-brainer — you had a great run but now just might be time to bring the money home. So consider locking in your gains and, to paraphrase Nike, just sell it. But what if you’re thinking of buying NKE stock? You might be positioning yourself for a painful experience.
When a stock trades at a premium to its own valuation, the myriad of things that could go wrong are not priced in. Meanwhile all the good news is already considered in the stock’s price. And that’s just by looking at the pure statistics side of the equation.
A NKE stock correction is therefore inevitable and might come sooner than you think. Bad news is likely around the corner, and it could bring down the stock to a more sensible valuation.
Only when that happens can NKE stock become a buy again.
As of this writing, Lior Alkalay did not hold a position in any of the aforementioned securities.
