Triple-Digit Gainer's Breakout Could Return Another 50% Profits
Were you one of the approximately 4 in 10 Americans who made a New Year's resolution this year? By any chance, was your resolution to lose weight? If so, that's not surprising. Shedding pounds is one of the most popular goals of those who make resolutions, particularly after holiday feasting.
Wonder how your resolution could lead to a profitable trade? The stock is Herbalife (HLF). Shares posted triple-digit gains in 2013, and the stock looks poised to provide outstanding returns again this year.
One main reason for its performance is a global obesity epidemic that's creates a multibillion dollar market for its weight loss products.
According to Transparency Market Research, the global weight management market is estimated to reach $650.9 billion in 2015, with weight management services being the fastest growing segment.
Herbalife, which uses a network of independent distributors to sell its products in over 80 countries, appears ripe to profit from this growing market.
For the past 19 quarters, Herbalife has posted results that surpassed analyst expectations. In October, the company reported its 16th consecutive quarter of double-digit revenue growth and announced record third-quarter earnings. Revenue for the period increased 19% from the year-ago period to $1.2 billion. For the same period, earnings per share (EPS) rose 44% from the year-earlier quarter to $1.41.
Because of increasing obesity in several countries, Herbalife expects consumer demand, especially in China and the Americas, to continue pushing revenue and earnings higher.
Another bullish factor is that the company appears to be putting an alleged scandal behind it. Shares fell drastically when hedge fund manager Bill Ackman claimed the company ran a pyramid scheme and fudged its books.
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However, a PricewaterhouseCoopers' re-audit of Herbalife's financial records for the period from 2010 through part of 2013 showed "no material changes" to the company's record keeping. In turn, shares surged to an all-time high.
The chart below shows the roller-coaster ride HLF took following the scandal allegations.
In April 2012, HLF hit a peak near $70, but soon fell sharply after allegations of pyramid scheme tactics and false record keeping. A major downtrend formed as shares slipped during the remainder of the year, hitting a multiyear low around $24 that December.
In early 2013, HLF reversed course. In March, the stock broke through the downtrend line, then in the low $40s, eventually reaching a peak above $52 in May. The stock then consolidated between the low $40s and just under $50.
It broke resistance above $52 in July and quickly ran close to $70 resistance created by the April 2012 peak. After drifting for several weeks, shares definitively broke this round number resistance in November. This level now marks important support.
In mid-December, HLF popped to an all-time high of $81.75, following news that the re-audit of the company's books found no material changes to the financial statements. As 2014 began, shares were trading just slightly below their peak. If the stock can take out the $81.75 all-time high, shares could move higher with no historical resistance in sight.
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Analysts following the company project the stock could go as high as $115. At current levels, this target presents traders with nearly 50% potential returns. To minimize risk, I recommend only entering a position if shares penetrate current resistance at $81.75.
The bullish technical outlook is supported by solid fundamentals.
For the upcoming fourth quarter, analysts estimate revenue will increase roughly 15% to $1.22 billion, from $1.06 billion in the comparable year-ago period. For the full 2013 year, they are expecting a 17% increase in sales to $4.8 billion, from $4.1 billion last year, and a 10% increase in 2015 to $5.26 billion.
The earnings outlook is similarly optimistic. Fourth-quarter earnings are expected to rise more than 11% to $1.17, from $1.05 in the comparable year-earlier period. For the full 2013 year, analysts anticipate earnings of $5.25 per share, up nearly 30% from 2012. And they expect another 10% increase in 2015 to $5.75.
In addition to a strong fundamental outlook, the company pays an annual dividend of $1.20 per share, for a forward yield of about 1.5%. This dividend could rise along with earnings.
Risks to consider: HLF saw stellar share price growth in 2013 with gains of about 145%, handsomely beating the S&P 500. Although the stock is trading at a reasonable multiple of less than 15 times estimated 2013 earnings, because of the large run-up, an earnings miss in mid-February could create a wave of selling pressure. However, given the trend of record-setting results, a large miss seems unlikely.
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On Friday, the Federal Trade Commission (FTC) announced it planned an initiative against deceptive advertising of weight loss products. Although it didn't name specific companies, HLF fell more than 5% by early afternoon trading before recovering some of the losses later in the day. The FTC's announcement is anticipated on Tuesday, Jan. 7. This reinforces my strategy of buying HLF only if it is able to break out above previous resistance.
Recommended Trade Setup:
-- Buy HLF on a break above current resistance at $81.75
-- Set stop-loss at $69.65, just below current support
-- Set initial price target at $114.95 for a potential 41% gain by late 2014
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