Market Outlook and the Stock of the Week: Lululemon

| About: Lululemon Athletica (LULU)
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Market Outlook

The bears showed their teeth Friday. Stocks tried to reach the green early in the day, but in the last few hours of trading were brought down.

The Nasdaq dropped 0.7%, while the S&P 500 was down 0.8%.

The NYSE broke above the 50-day moving average during the week in weak volume, but closed under it Friday in heavy volume. The Nasdaq and S&P 500 are still above those lines.

The volume this week was a real tell on the correction. There were a few days where stocks were up on low volume, but when they went down it was on heavy volume. This shows that the correction may have longer to go. Still continue to make a watch list though. Sectors that look undervalued are the industrials, healthcare, and some of the technology space.

One Year Chart of S&P 500
(Click to enlarge)

Lululemon Ready to Launch?

Lululemon (NASDAQ:LULU) is an athletic apparel company for yoga, running, and pretty much any other sport you can think of.

In the latest quarter LULU reported better than expected earnings of $0.64,beating estimates of $0.57 per share.Beating estimates hasn’t been much of a surprise for them though as they have beaten them more than two years straight now. LULU has an EPS growth rate that is over 60%, only seen in the younger retailers. With this growth, investors have raised the price to over 60 times the earnings! With a P/E (Price divided bythe Earnings per share) this high people are wondering if it’s even worth buying.

Those people haven’t done the research. LULU is going to be a great long-term play.

First thing I like to do when I find a young retailer is research how many states they have stores in. (You can usually find a store locator on their website.) If the retailer is in all 50 states, then it is not worth paying a high P/E. (Remember the average P/E is 15.) This is because the U.S. is the biggest consumer spending nation, and once you cover it your growth tends to go flat, like Wal-Mart (NYSE:WMT). LULU has official (more on what I mean by that later.) stores in 24 states. They have plans in place to open 25-30 more this year.

LULU passes the first check on the list, but what about the next? The second thing you need to look at is the business model. This iswhere LULU excels.LULU has one of the best, most innovative business models in the retail industry.

While doing my research I realized how connected the company was with their customers. LULU’s stores offer group activities, like a running group, self-defense, and much more. What is even more interesting is that the management takes part in at least one of these groups. The CEO is in a running group in Toronto. Not only does the management know their business better by doing this, but they know their customers better. It doesn’t stop there though! LULU has a great approach to opening new stores. When they find an area they like they will open a showroom. If the demandis heavy then they will open an actual store.Thiscan save them a ton of cash, because they do not go all in and ship products to the store. Think of it like getting into a swimming pool. You want to test the water before jumping in. That is exactly what LULU is doing.

What about areas that don’t have store? LULU still gets to them with their booming online store. In fact demand from the U.S. was so high last quarter that they ran out of inventory.

The next two things that you need to check for in young retailers are if they are taking out a lot of debt to open new stores, and if their management can’t keep control of expanding which would lead to missing estimates because of “expansion problems”.

LULU has no debt, and management has been handling the expansion process just fine.

The last thing you need to check is the company’s future. In addition to their popular women’s clothing line, LULU has been working hard on a new men’s line of clothing.

Best of all is that they are approaching it the same way they open their stores. They test the product and tweak it to make sure that when it comes out it will be as big of a hit as the woman’s clothing line. The revenue possibility here is tremendous. LULU could easily be the next Nike (NYSE:NKE).

These young retailers are hard to come by. The way you need to play this stock is long-term. LULU will top when they have stores in almost every state, but until then this stock will continue to fly. If you have any doubts to how much money is left to be made then I encourage you to look at Wal-Mart’s (WMT) chart from 1991 to 1999.

LULU continues to deliver great earnings and growth. Don’t throw away this stock just because the P/E is high. All young retailers with high hopes have high P/Es.

For price analysis look below.

Recommendations on Lululemon

Short-Term: Hold

Intermediate-Term: Buy

Long-Term: Strong Buy

LULU’s chart is a thing of beauty. During the correction LULU has been able to stay strong. They are retreating to the 10-week line though. If they manage to bounce of the 10-week line in heavy volume then that’s your chance to get in. Currently LULU’s chart seems to be forming a pattern, but it is too early to tell what it may be. A pattern is something chartists look at to see if a stock could move higher or lower. Even though LULU has a very strong chart I would hold off on buying for the short-term. The market is still in a correction, and seems to be getting deeper into it. If you are looking to set-up a long-term/intermediate-term position, then buy a little bit now and see what happens when it hits the 10-week.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.