"Don't catch a falling knife," as the old saw commands. (Pardon my mixing a cutlery metaphor.) The idea of buying a former superstar stock at a discount price certainly has its attractions, but you've got to make sure you catch the handle -- not the blade. That's where Motley Fool CAPS comes in.
It's been a while, but thanks to last week's sell-off, we once again have a chance to stand beneath Mr. Market's silverware drawer in hopes of snagging a bargain. Let's meet today's contenders:
(out of 5)
Abercrombie & Fitch
Direxion Daily Small Cap Bear 3X
Taking stock of the week in weak stocks
It's slim pickings for deep value investors these days, as Mr. Market resumes his upwards march. Last week the Dow tacked on 1.5%, and the Nasdaq did twice as good -- indeed, hitting its highest levels since mid-2000. It's little wonder, then, that one of the week's worst performers was the ETF that attempts to profit by leveraging itself 3-to-1 to bad news among flighty small-cap stocks, the Direxion Daily Small-Cap Bear "3X" ETF.
Among companies with more heft, only a bare handful hit 52-week lows last week:
- Telecom Italia, for reasons that should be obvious. Italy's debt situation is a mess already, and when investors look at TI, they see a stock that exemplifies the country's problems: minimal profits and a debt load three times its own market cap.
- The situation is similar with EXCO Resources. Everyone knows the natural-gas market is in the dumps, and EXCO is levered to the nat-gas market. Any questions?
- And finally, the stock we'll be profiling as a bounce candidate this week -- Abercrombie & Fitch.
The bull case for Abercrombie & Fitch ... is there one?
Ordinarily in this column, I try to profile a stock that's been hit hard, but that CAPS members believe has a good chance of bouncing back. But, to put it bluntly, there are no such stocks this week. Stocks that are doing well -- Apple, Intuitive Surgical, and the like -- are expected to keep on doing well. Stocks that aren't ... aren't. Which brings us to A&F.
On Thursday, the teen retailer admitted that it suffered flat comps and falling margins in Q4. "Adjusted" profits for the quarter are expected to be as low as $1.10 per share -- but unadjusted "net" profits could be even lower, since management warned it will be taking some sizeable charges to earnings when the official earnings numbers come out on February 15. Hearing this, investors immediately sold off the stock -- sending it down 14% on the day. Were they wrong to do so?
Some Fools think so. CAPS member BigFatBEAR, for example, thinks A&F is "worth ~$60+, on my very quick glance. Low debt, so risk is somewhat small unless Euro contagion really spreads from here.”
Legendary CAPS investor tenmiles agrees, calling the stock "technically oversold near term; likely long-term value."
Me, I'm not so sure. I mean, yes, Abercrombie & Fitch looks attractive on the surface. Its 19 P/E ratio compares favorably to the 20%-plus growth rate that Wall Street predicts for it, and the stock's 1.7% dividend yield is not too shabby, either. I can't help noticing, though, that free cash flow at this company is still just 65% of reported net income -- net income that we now know is likely to be quite a bit weaker than expected when the final results come in next week.
Foolish final thoughts
Numbers like these -- both the ones we see on the surface, and the weaker results that require some digging to find out -- suggest to me that the pain may not be over for A&F shareholders just yet. Instead of buying this stock, therefore, I think investors might be better advised to shift to a quality retailer like Ascena Retail Group
The owner of the Justice and Dress Barn brands has many of things value investors like about A&F -- net cash (about $290 million), strong growth prospects (14.5%), and a reasonable P/E (17). It's also got one thing A&F does not have -- free cash flow of $170 million, which is almost a dead-on match for reported GAAP profits, indicating high quality of earnings.
Having outperformed the S&P 500 and up 20% this year, Ascena Retail isn't exactly what I'd call a "bounce" candidate -- but I still think it's a better place for your money than Abercrombie & Fitch.
Abercrombie has a dividend, but it's not particularly cheap. Ascena is cheap, but it's got no dividend. Are you looking for a stock that offers the best of both worlds? Read our new report -- for free: "13 High-Yielding Stocks to Buy Today."
Fool contributor Rich Smith does not own shares of (nor is he short) any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 364 out of more than 180,000 members.
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