The athletic-apparel industry obtains a lot of its product from China. As a result, U.S. athletic-apparel companies find themselves at the epicenter of the U.S.-China trade war. Thus, it should be no surprise that, as this trade war has heated up over the past month, Nike (NYSE:NKE) stock has been down slightly, since NKE is a leading athletic-apparel maker.
But, amid this trade-inspired weakness, the bull thesis on Nike stock has become quite compelling. That bull thesis is pretty simple. There are two parts to it.
First, all the concerns which have hurt NKE stock over the past month are underappreciated. Second, the favorable fundamentals which have pushed Nike stock higher over the past several years are underappreciated.
In other words, when it comes to Nike stock, the near-term negative factors are being exaggerated, and the long-term positives are being underappreciated. That combination won’t last long. As long as it does, though, it is giving investors a compelling opportunity to buy a high-quality growth stock at a cheap price.
As a result, investors should buy Nike stock on its recent weakness.
The Negative Factors Are Being Overstated
There are really three major factors that are currently weighing on Nike stock.
First, there’s the concern that more tariffs will increase Nike’s input costs, causing its margins to fall. That fear is overstated. China is a big part of Nike’s supply chain; about 23% of the brand’s shoes and 27% of its apparel comes from China. That means about one-fifth of Nike’s products will have higher input costs as a result of the tariffs.
But the tariffs will only raise its input costs by 10%-20%. Nike’s brand equity is strong enough to pass most of the higher costs onto consumers without materially weighing on the demand. for its products Thus, Nike’s margins will take a small hit from tariffs, but the hit won’t be big enough to justify weakness of Nike stock over the long-term.
Secondly, there are concerns that tariffs will hamper the Chinese consumer economy, weighing on Nike’s growth rates in the country. But tariffs have been around for about 19 months. All Nike’s China business has done during that stretch is continue to fire on all cylinders. Plus, signs are emerging that China’s economy is actually starting to turn a corner and re-accelerate. Thus, going forward, Nike’s China business should be just fine.
Third, some are worried that a global recession is just around the corner, and that Nike’s numbers will get hit hard if a recession does materialize. But a recession is not going materialize.
We are one U.S.-China trade deal and a few interest-rate cuts away from the global economy going back to firing on all cylinders. Both of those things seem likely to happen sometime soon, as President Trump doesn’t want the trade war to interfere with his re-election bid. Meanwhile, the Fed doesn’t want the yield curve to be inverted (and/or be the cause of the next recession).
So all the negative catalysts surrounding Nike don’t justify the weakness of Nike stock.
The Positive Factors Are Underappreciated
There are really three positive factors that investors are failing to appreciate adequately First, the athletic-apparel market globally remains red-hot, driven by non-cyclical consumption trends such as consumers’ increased desire to be fit, healthy, and active. Those trends look poised to remain strong for the foreseeable future, providing a strong, positive catalyst for Nike stock.
Second, Nike’s dominance of the red-hot athletic apparel market is increasing. For awhile, NKE was losing market share to trendier players like Adidas (OTCMKTS:ADDYY). Nike has since fought back with its Consumer Direct Offense initiative, which included streamlining investments and focusing on direct-to-consumer sales. As part of the initiative, NKE also accelerated its product innovation efforts and its time to market. As a result of these efforts, NKE has been rapidly regaining market share in recent quarters.
Third, given that Nike is re-extending its dominance of the red-hot athletic apparel market, Nike’s revenue and profit should grow at healthy rates for the foreseeable future.
Its earnings per share was about $2.50 last year. Analysts, on average, expect its EPS to rise 16% this year to $2.90, 17% in 2021 to $3.40, and 15% in 2022 to $3.95. That seems doable to me. Based on Nike’s average forward price-earnings multiple of 25 and the average 2022 EPS estimate, its 2021 price target is nearly $100.
Thus, fundamentals show that Nike stock can rise meaningfully over the long-term, making it a solid buy amid its recent weakness.
As of this writing, Luke Lango was long NKE.