Are Glove Stocks still a Good Buy? Supermax as a Case Study

When the glove bonanza is too hot to neglect, one will try to understand what is the rationale behind the craze, and to see if the party has just started or it’s already near to the end.

Take SupermaX as an example, now that all the good news like higher ASP every month, own distribution centers, OBM margin, strong demand up to 1.5 years etc, are already all over the place, looks like the prospect is guaranteed which we have no doubt, but would look at the valuation if it still makes sense to join the party?

2020Q3 (Jan-Mar’20) results show 71M in net profit, a good quarter of >100% increase both YoY or QoQ. That was when Covid has already been spreading since late Jan in China.

Let’s assume the subsequent 3 quarters will have 100M in net profit respectively, that makes up the 4 quarters to be 371M. And some people may say this is still way underestimated. Ok. Let’s make it to 400M then.

That translate to the EPS of 0.2941. Let’s round it to 0.3.

Now let’s look at few scenario:

  1. PE 25x => TP = RM7.50 in the next one year

Some people may argue the interest rate environment is so low that such a hot stock deserve higher PE. Ok. Let’s be more optimistic.

2. PE 30x => TP = RM9.00

Come on. This is unprecedented pandermic the mankind is ever experiencing. Plus the low interest environment and government is encouraging spending and investing. Ok.

3. PE 40x => TP = RM12.00

Well since this is an extreme bonanza kind of situation and market filled with liquidity, let’s be even more optimistic.

4. PE 50x => TP = RM15.00

Ok now this starts to sound like a TP?

Some may still opine that the valuation can go up to PE60x which translate to TP of RM18.00, due to whatever reasons.

Investors have to be reminded that this is a forward PE anticipating the earnings of 2021 will increase more than triple from the previous year. And subsequent years have to be at least the same growth to keep the sentiment intact.

Now let’s try to ponder about a few points:

  1. With the superior demand and increasing profit margin, will these attract more new players from different industries to venture into it? Will existing players expanding capacity like no tomorrow to capture the once in a lifetime opportunity? Based on supply and demand law, when supply is over demand, what will happen to the price? Apparently high ASP is just something that last for a period of time and it’s not sustainable. Because high margin will lead to high competition which results in low margin due to price war, before it eliminated the weak players and stabilized to normal margin.
  2. A similar scenario happened to face masks before. Price of the Chinese face masks fabric and production equipment plummeted after plenty of new players rushed into the business, causing excessive supply. Similarly, once the glove makers all over the world start to boost production in full force (though they are mostly concentrated in Malaysia), how long will the glory days last?
  3. Based on Peter Lynch the cocktail party theory
    1. Stage1: At the party, people are not talking about stocks. There is little to no interest to talk to an equity fund manager. The folks are inclined to talk about plague with a dentist than about stocks. The market is likely to head higher.
    2. Stage2: People may talk about stocks but still think it’s risky. They still talk more about plague than stocks. Generally market has up about 15%. A few care.
    3. Stage3: Market has gone up about 30%. People start asking fund manager like Lynch on what stocks to buy. Most has bought a stock or two.
    4. Stage4: Fund manager like Lynch are surrounded by crowd. This time not asking for a recommendation but instead telling him which stocks to buy. Dentist is offering stock tips. This is a good indicator that stock market is near to its top.
  4. Now back to the real life. How many people around us which previously show no interest to stock investing, are talking about stocks recently? How many even made a handsome profits from stocks but know nothing or superficially about the business? Does your barber and colleagues tell you they also bought glove stocks? What’s the frequency of you seeing FB ads like stock investment class promotion, tips groups etc? How many gurus are promoting the use of margin finance? How many articles and research reports are released to justify certain high valuation stocks? Which stage are we in the cocktail party?
  5. Nevertheless, the theory is more like a concept rather than a hard rule. The high valuation may even get higher. No one knows about what is going to happen. In this manner we need to ask ourselves how much of the stock price is built based on firm foundation and how much is built as castle in the air due to buyer sentiment?
  6. All the good factors and good news have already known to the market and mostly priced in to the stock price with super-optimism. When the “super” stocks do not meet market expectation, even the results are very good, or if a vaccine has been successfully developed where glove demand may hit its peak in near future, what do you think the stock price will react? The stock price will probably collapse due to sentiment change which will cause market to think it does not deserve high PE anymore. This will lead to further price drop, because the EPS and PE have multiplying effect, which is known as “Davis double-kill effect”.  The outcome can be devastating.

So do we have an answer as to whether the glove play is still intact?

Ideally we hope everyone is making money from the bonanza. But in reality we know it’s not. The value investors may find nothing attractive in this kind of stocks anymore, while the theme players or trend followers may still think the party is not over yet.

It’s not a matter of right or wrong, but more to one’s value system and what type of investor are you. At the end of the day it’s all about risk management. Currently it’s definitely higher risk and relatively lower return if you enter now. Because all the big sharks have already on board. Still can go in? Ask yourself if you are a small fish or a big shark? Or are you willing to swim along with sharks? You may still make money but, are there better other stocks to invest in the market which you can sleep soundly at night?

“Investment risk comes primarily from too-high prices, and too-high prices often come from excessive optimism and inadequate skepticism and risk aversion.” Howard Mark.

Author: Wisdom for Freedom