What happened
It's been a whole trading week since the last time American Eagle Outfitters (AEO 0.31%) investors had reason to be happy, with five straight days of nothing but falling share prices. But today that all changed.
On the day before American Eagle reports its first-quarter financial results, it finally caught an updraft, and as of 12:40 p.m. ET it's soaring 10.4% higher.
Image source: Getty Images.
So what
Why is that, and will this rebound survive tomorrow's earnings results?
Let's consider: Heading into Q1 earnings, analysts are forecasting that American Eagle's sales will rise 10% year over year to $1.14 billion. Profits, on the other hand, are expected to move in the other direction, plunging as much as 48% to $0.25 per share.
More sales, but less profit? This seems a pretty low bar that Wall Street is setting up for American Eagle to clear, and that raises the possibility the company will simply extend its wings and glide right over the bar -- except for one thing.
Now what
Just two days ago, investment bank Citigroup previewed AE's earnings report, and according to StreetInsider.com, the banker warned that while investors are betting on "strong growth for the aerie brand" to save the day, in fact, there's trouble brewing. Specifically, in 2019 AE was earning operating profit margins of only 6.5% on its sales, but last year that margin nearly doubled to 12%.
Any potential reversion to the mean, therefore, implies that AE's profits will in fact fall steeply tomorrow. Indeed, a reversion is likely because of (1) less demand for clothing this year, exacerbated by cool weather that's depressing demand for summer clothing; (2) high inventories of unsold summer clothing; and (3) all the other bad news that's been afflicting retailers this earnings season, everything from inflation to rising rates on credit cards to stretched supply chains to more expensive transportation.
This all adds up to a strong likelihood that American Eagle's results tomorrow may look a lot like Abercrombie & Fitch's results yesterday: weak sales and a steep decline in profits. I hope I'm wrong about this, but I fear I'm right.
