What do background checks and Donald Trump have in common? Both are gauges of potential trouble brewing for publicly traded gun stocks.
At the end of last week, the Federal Bureau of Investigation released information that background checks for firearm sales fell to an eight-month low. That effectively translates into lower demand for guns, and therefore, lower valuations for gun stocks.
At the same time, Donald Trump is making unnecessary news, drawing concerns among gun rights activists that a Republican will be denied the White House once again.
Should investors of gun stocks be concerned about these latest developments?
At the very least, they deserve careful consideration. Popular gun manufacturers have suffered double-digit-percentage losses in the markets following the FBI’s report. Even ammunition suppliers and firearms retailers like Cabela’s Inc (CAB) have incurred sharp losses. Wall Street is interpreting the data as a major headwind for gun stocks, and is clearly hedging their bets.
Black rifles were the target of both the mainstream media and gun control policymakers after high-profile shootings. Yet the FBI report is very clear — throughout President Barack Obama’s administration, permits for such weapons have steadily declined.
This brings us to Donald Trump. Many analysts take the view that should Hillary Clinton win the general election, that would result in a surge in gun sales due to fears of restrictive gun control laws. Even if that were true, the problem is that extra demand has consistently shifted to handguns, which are lower-ticket items and typically shoot less expensive ammo. That represents a profitability dilemma for gun stocks.
Further, a Clinton administration would likely be bearish for gun stocks over the long term. So it’s in the best interest of Second Amendment activists to push for a Donald Trump White House. The problem there is Donald Trump. He’s getting sidetracked with too many personal disputes and providing plenty of fodder for Clinton.
These are nail-biting times for the firearms industry. Here are three gun stocks marked with a red flag.
Gun Stocks Facing Troubles: Smith & Wesson Holding Corp (SWHC)
Those who don’t know anything about firearms will still have likely heard about Smith & Wesson Holding Corp (SWHC). Both famous and infamous, SWHC is one of few lucky companies to transcend their primary industry and into popular culture. Nevertheless, SWHC needs much more than brand-name recognition to pull through its latest challenge. Following the FBI report, SWHC is down over 10% and is treading precariously on weak technical support.
It may seem a little strange that SWHC is struggling, especially given its recent third-quarter of fiscal year 2016 results. Smith & Wesson veritably killed Wall Street consensus, producing an earnings surprise of nearly 53%.
To its credit, SWHC recognizes the problem. It was revealed in late March that the gun manufacturer wanted to branch out to the “rugged outdoors” market. Although SWHC has yet to officially crystallize its strategy, the move would make sense. Firearm sales can be frustratingly cyclical, and exposure to an unrelated sector could help with the predictability of income.
That being said, SWHC is still a firearms company — and that industry has heavy headwinds to overcome.
Gun Stocks Facing Troubles: Sturm, Ruger & Company (RGR)
Although it has a reputation for craftsmanship among the firearms community, Sturm, Ruger & Company (RGR) isn’t exactly a straight shooter when it comes to its financial outlook.
Yes, it blew the heck out of its earnings forecasts for Q1 FY 2016, producing a positive surprise of 26%. RGR claims that industry demand is strong. Yet RGR stock is flat for the year. In addition, shares have lost 10% of value in the markets over the past month, mostly over the past few days.
Will the real RGR please stand up?
Ruger and other gun stocks suffer from a perception problem, and typically jump on unpredictable and regrettable events. Q1 sales were a phenomenal improvement over the year-ago quarter, but it’s the consistency (or lack thereof) that is troubling.
Furthermore, the FBI statistics suggest that long gun sales have hit a plateau. From 2007 until the end of 2015, the number of permits for long guns increased by 20% — a paltry 2% increase every year. On the flip side, handgun permits increased 178% over the same time period. That translates to a progressively declining opportunity for RGR to push higher-priced black rifles to the retail floor.
RGR had a phenomenal run, but industry dynamics warrant some consideration towards profit-taking.
Gun Stocks Facing Troubles: Vista Outdoor Inc.
Among gun stocks, Vista Outdoor Inc. (VSTO) stands on unique ground.
For one thing, VSTO is what Smith & Wesson wants to be — a firearms company that also has exposure to the outdoors market. Along with its gun manufacturing brand Savage Arms, VSTO sells a variety of ammo. Its diversified portfolio has protected it in the markets, with VSTO up over 7% year-to-date. However, that shouldn’t be used as the sole reason to take a risk on the stock.
It all points back to the uneven demand — and it might affect VSTO more negatively than the other gun stocks. For one thing, Savage Arms only produces long guns, the very category that has been in decline relative to handguns.
The other problem is in the ammo. Setting aside novelty revolvers and pistols, most everyday handguns shoot considerably cheaper ammo than that of popular black rifles.
On the ammo side of things, that’s a double-impact. Declining long gun sales reduce demand for long-gun-caliber ammo, which also reduces the opportunity for repeat business.
VSTO may look safe because of its broader reach, but that just ends up diluting its business.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.