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  • Nike's earnings outpaced analyst estimates, causing shares to rally higher.
  • The strong performance could mean other footwear stocks offer an opportunity for upside.
  • These three footwear stocks boast bargain-basement valuations that could set shares up for positive returns.

The well-loved athletic footwear company Nike  (NKE)  is named after the Winged Goddess of Victory in Greek mythology. It is an appropriate homage today, given its shares soared after it reported better-than-expected earnings results.

Investors who had been worried that mounting inventories would take a big toll on margin were encouraged to discover that Nike’s gross margin declined less than expected. While Nike marked down some products because inventories were too high, it selectively increased prices elsewhere, resulting in a higher average selling price companywide.

The company’s strong global sales performance was similarly encouraging. Nike’s revenue increased 30% in North America, offsetting a 3% decline in China year-over-year. In Asia Pacific and Latin America, and Europe, sales grew 19% and 11%, respectively, taking some wind out of the sails that global recession fears are crimping footwear demand.

Overall, Nike’s revenue grew 17% to $13.3 billion in the quarter, while earnings per share (EPS) increased 2% to $0.85. Those results handily outpaced analysts’ downbeat outlook for sales and EPS of $12.6 billion and $0.65, respectively.

Those numbers could indicate investors are underestimating footwear demand and industry performance this holiday season. If so, buying other beaten-down bargains in the space could be wise.

3 cheap footwear stocks

In “Three 'Shoe' Things: These Stocks Will Fit Traders and Investors,” Real Money Pro’s expert value investor, Paul Price, highlights three footwear stocks trading at historically low valuations: Caleres  (CAL) , the owner of Famous Footwear, Designer Brands  (DBI) , the owner of the DSW, and Wolverine Worldwide  (WWW) , the company behind a slate of brands including Keds, Merrell, and Saucony.

All three companies pay healthy dividends, and two of them, Designer Brands and Wolverine Worldwide, are trading at fresh multi-year lows. The third, Caleres, has declined almost 30% in the past month, following a decision in November to pause share repurchases to pay down debt.

Price writes:

“It is scary to see that kind of price action on stocks you own and like. Times like that send me back to the fundamentals to see if I am the crazy one or if everybody else is…Here are the earnings per share estimates for the current year as well as 2023 on this trio as listed on Yahoo Finance. I see nothing upsetting at all…In fact, all three names are incredibly cheap on both absolute and relative valuations compared with all previous years.”

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The previous table shows that all three stocks trade at price-to-earnings (P/E) ratios in the mid-single digits. Those levels are historically low, suggesting investors anticipate a retreat in forward-year estimates. However, what if that doesn’t happen? If these companies deliver anywhere close to analysts’ estimates, a move up to a P/E of 10 will result in Caleres, Designer Brands, and Wolverine Worldwide rising 120%, 90%, and 70%, respectively.

Of course, there’s no telling what multiple these stocks will eventually trade at, but Price has reason to believe a P/E of 10 is likely. He writes:

“From multiples of 4.5-times to 6.7-times trailing earnings there is an extremely high probability of seeing price-to-earnings expansion…P/E expansion is the magic elixir that turns even modest profit gains into enormous shareholder gains…CAL posted an average P/E of 13.9 times from 2014 through 2019…Designer Brands is even more undervalued than that based on its former trading history. Its average P/E ran 16.8 times from 2012 through 2019…WWW's typical P/E is about 16.6 times.”

If the past is prologue, a valuation of 10 times earnings isn’t outlandish. However, it may take time. The economy is taking a toll on consumers’ discretionary spending, and the threat of layoffs suggests consumers may limit spending next year, too. For this reason, value-oriented investors shouldn’t expect these stocks to beeline higher.

Price writes:

“All you need to make gains on these stocks is the willingness to buy when others are selling and a bit of patience. It never took long from the previous lows to see large percentage gains.”

The Smart Play

The big risk to these stocks is that analysts further ratchet back their earnings outlook for next year. A lower “E” in the P/E ratio would cause valuations to climb without requiring a stock rally.

Also, Nike is arguably the best-in-breed footwear brand, so its recent success may have more to do with consumer loyalty than overarching industry activity.

Nevertheless, valuations often get stretched too far at market peaks and nadirs. Undeniably, Caleres, Designer Brands, and Wolverine Worldwide are trading at a discount relative to historical levels, so mean reversion is possible.

If inflation continues decelerating and job losses are limited, these stocks could see margins improve and demand remain stable enough to over-deliver rather than under-deliver on analysts’ earnings outlooks.

However, the risk that the economy worsens shouldn’t be ignored. For this reason, consider a smaller-than-usual initial allocation to these three stocks to opportunistically increase them to a full position over time. A measured approach like this will expose you to the upside without overly exposing you to the possibility that next year’s earnings outlooks will be lowered, causing shares to drop.

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