Shares of Nike (NYSE:NKE) raced to new all-time highs last week before pulling back. Nike stock briefly traded above $130 following the latest earnings release then ran into some serious resistance. Nike is looking tired and toppy after reaching overvalued and overbought levels. All of that means it’s time for the recent red-hot rally in Nike to cool down.
Certainly the earnings released last Wednesday were an impressive beat on both the top and bottom line. Earnings-per-share came in at 95 cents, well above the expectations for just 46 cents. Revenues of $10.59 billion trounced estimates for just $9.11 billion. Most of the beat was due to impressive online sales, which may be difficult to replicate going forward. Nike issued guidance for roughly 10% revenue growth for 2021.
However, the valuation for Nike stock has gotten very expensive … even after the earnings beat. In fact, its current price-to-earnings ration (P/E) now stands at over 70x. This is its loftiest level in the past decade. Meanwhile, its price-to-sales ratio (P/S) just blew past 5x. It’s also at a 10-year high. Both of the metrics are double the 5-year average for Nike stock.
Nike is really rich even on a forward basis. Analysts consensus is for FY 2021 earnings of $2.45. This would put the forward P/E at 50.51x. It’s hard to imagine Nike being able to continue to grow earnings and revenues at rates that would justify such nosebleed valuation levels. Consider that 10% sales growth just doesn’t come close to equating to a 5x price-to-sales number.
A Deeper Look At Nike Stock
Nike stock got extremely overbought from a technical perspective. Its 9-day RSI breached the 75 area before weakening. Momentum got to a recent extreme as well before running out of gas. Its Bollinger Percent B blew out big time to the upside as it raced past 100 and to the highest readings of the past year. The stock also is trading at the biggest premium to the 20-day moving average, which has led to pullbacks in the past.
Source: Thinkorswim® platform from TD Ameritrade
Most importantly, Nike had a major reversal day following the earnings release. Shares opened at the highs of the day above $130 before quickly reversing course to close just off the lows of the day. This type of price action is many times a sign of a significant short-term top in the stock. The buyers have finally become exhausted and the sellers are in control. It is even more powerful given that it took place at all-time highs.
Nike stock is primed for a pullback on both a fundamental and technical basis. Shorting Nike outright can be risky and requires a lot of margin for error given the price of NKE shares. The options market, however, provides a lower risk and cheaper way to take a bearish stance in the stock. An out-of-the money bear call spread positions you to be a seller above the all-time highs, while collecting premium now.
How to Trade Nike Stock
Buy to open the NKE Nov $140 calls and sell to open the NKE Nov $135 calls for a 1.10 net credit.
The maximum gain on the trade is $110 per spread. Maximum risk is $390 per spread. Return on risk is 28.2%. The short $135 strike provides a 8.6% upside cushion to the $124.32 closing price for Nike stock. It is also well above the all-time intra-day highs at $130.38. The margin requirement on the trade is the $500 per spread less the premium received of $110 per spread-or $390 per spread.
On the date of publication, Tim Biggam did not have (either directly or indirectly) any positions in any of the securities mentioned in this article.
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