After an Epic 2019 Rally, I've Got Nike Stock on Hold -- for the Moment

Trade wars. Global economic slowdown. Recession. These are terms that don't bode well for any company, especially an international consumer goods powerhouse like Nike (NKE 0.34%).

But when uncertainty abounds, it can sometimes lead to bargain purchases that pay off, and uncertainties in 2019 helped the world's largest shoe brand deliver with a 36% gain on the year. That tops off a nearly 100% return over the last three years (more than double what the S&P 500 has offered up over the same time frame).  

Sneakers are a hot commodity around the globe right now, and Nike's leadership in that department isn't going to fade anytime soon. However, as good as recent results have been, it's time for a pause. Don't bet against Nike, but I'm looking for a pullback before jumping back in.

Image source: Nike.

Recovering with the global economy

Fiscal 2018 and 2019 (the years ended May 31, 2018, and 2019, respectively) were relatively sluggish ones for Nike. Revenues rose 6% in 2018 and 7% in 2019, with last year's results being dragged down due to negative foreign currency exchange rates. Excluding those effects, sales would have grown 11%.

Halfway through fiscal 2020, Nike is faring much better. Sales are up 9% so far, including a 10% gain in the recently reported second quarter, which again got hit by currency exchange rates (growth would have been 13% otherwise). Earnings per share are up 31%, propped up by growing profit margins on products sold and Nike's generous share repurchase program. Sales in China are leading the way, up 21% in the first six months of the current fiscal year and bucking all the negative U.S.-China trade war doom and gloom during the period.  

Data source: Nike. Pp = percentage point. 

It's possible that the world economy reaccelerates this year as well, adding further support to Nike's recent uptick in growth (since 56% of the company's sales have come from outside North America so far in fiscal 2020). The International Monetary Fund sees global GDP increasing to 3.4% from 3% in 2019 if trade tensions ease and manufacturing recovers. Added to a rosier outlook for the economy, Nike has also been a case study in going digital the right way. After announcing it was parting ways with Amazon, management credited its digital selling prowess for its reinvigorated profitable expansion -- besides its strong brand amid a general sports footwear craze around the globe.

Optimism increasingly priced in

However, Nike's stock run is showing signs it's losing a little steam. Q2 results were some of the best from the last few years, but they were greeted with a shrug from investors. Shares have actually been flat since the report card was released -- not surprising since the stock is priced at a premium. Share prices have been handily outpacing earnings growth, and the stock is now priced at 29 times one year forward expected earnings. The high price tag is certainly warranted (the S&P 500 currently trades for 19.8 times one year forward earnings on expectations for high-single-digit earnings growth), but the valuation prices in a fair amount of continued double-digit earnings gains.  

I'm certainly not saying to bet against Nike. Sneakers aren't just a hot fad, but rather the new norm in footwear, and Nike is in command of the industry. However, given the run-up in the stock in the last year, I say wait on a new purchase until shares notch a pullback. I for one am looking for a drop of about 10% before I buy in again.