I'm going to attempt something a little odd today, Fools. Even though Deckers Outdoor (NASDAQ: DECK) stock makes up just less than 1% of my real-life holdings, I'm going to be giving you two reasons to consider selling the stock today.
Why am I doing this?
Recently, Nobel Prize winner Daniel Kahneman visited Fool headquarters in Virginia. While visiting, he talked about how a number of different biases can lead us to believe we can predict the future with relative certainty. In reality, he argued, we are just deluding ourselves.
It got me to thinking about how I don't write enough about the risks of owning the stocks I own. So, though I don't plan on selling my Deckers stock right now, I think it's healthy for me to practice and model this behavior.
1. Betting on fashions can be a dangerous game
If you're investing in an electrical utility company, you can rest easy knowing that people will continue using electricity for the foreseeable future. The fashion industry is an entirely different beast. Fashion trends can change at the drop of a hat, and the cause for changes in these trends can be difficult, if impossible, to predict.
One need only look at the plight of a company such as Abercrombie & Fitch (NYSE: ANF) to understand how sensitive a fashion company's stock price can be. In a 2006 interview of CEO Mike Jeffries with Salon magazine that resurfaced last month, Jeffries stated: "A lot of people don't belong [in our clothes], and they can't belong. Are we exclusionary? Absolutely." That, combined with disappointing sales numbers for the first quarter, sent shares down by 13% in just two trading days.
Deckers isn't looking at PR problems like that, but the company does relies on its two biggest brands for the bulk of the company's revenue. In 2012, Deckers' line of Ugg boots contributed 58% of all sales for the company, and Teva sandals chipped in another 8%. Though these two brands have been around for some time, there's no way to know if they'll continue to be popular with the next generation of consumers.
For example, last year, sales of Uggs were down 10.5%, and Teva sales dropped 8.5%, through the company's wholesale channel. Obviously, if this represents the beginning of a trend, Deckers' core products could be in a long-term decline.
2. High input costs
One thing that differentiates Uggs and has helped them maintain their popularity is Deckers' refusal to use cheaper substitutions for the boots' sheepskin components.
The problem is that Deckers has had to pay much higher prices for its sheepskin than in years past. In 2011, sheepskin prices were 27% higher than in 2010. Gross margins contracted by a huge 820 basis points in 2012, primarily because of the continued increase in prices.
Unless Deckers decides to use other substances for Uggs, which is highly unlikely, input costs for sheepskin will always be an important risk factor for investors to remember.
How I'll proceed
As it stands, Deckers is a pretty small investment for me. From what I can tell, sheepskin prices should be stabilizing soon. Famed value investor Whitney Tilson also recently published findings that should encourage Deckers shareholders: 75% of respondents said they view Ugg boots as functional, not fashionable, 60% said they were likely or certain to buy more Uggs when they needed new boots, and 77% said there was a good chance they would recommend Uggs to others.
Given these facts, I'm comfortable holding my shares.
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