American Eagle Stock Has Upside Potential To Its Pre-Inflation Peak

American Eagle Outfitters (NYSE: AEO), which sells men’s and women’s apparel and accessories under the American Eagle, Tailgate, Todd Snyder, and Aerie brands currently trades at $11 per share, around 71% below its level of $38 seen on April 25, 2021 (pre-inflation shock high), and has the potential for sizable gains. AEO saw its stock trading at around $9.73 at the end of October 2022, when the Fed kept increasing rates, and now remains up by about 11% from those levels. In comparison, the S&P 500 gained about 18% during this period. AEO stock has benefited from better-than-expected Q1 results with revenues coming ahead and earnings coming in line with expectations, rising gross margins (38.2% in Q1, up 140 basis points year-over-year), and easing supply chain issues. 

Returning to the pre-inflation shock level means that American Eagle Outfitters will have to gain about 250% from here. While it has the potential to recover to those levels, we estimate American Eagle Outfitters’ Valuation to be around $15 per share, about 39% above the current market price. This is because the recent uncertainty in the retail sector has made investors concerned about a potential recession. AEO’s business may see an adverse impact on its volume if the U.S. economy were to go into recession, with customers holding back on discretionary purchases.

Our detailed analysis of American Eagle Outfitters’ upside post-inflation shock captures trends in the company’s stock during the turbulent market conditions seen over 2022 and compares these trends to the stock’s performance during the 2008 recession.

2022 Inflation Shock

Timeline of Inflation Shock So Far:

• 2020 – early 2021: Increase in money supply to cushion the impact of lockdowns led to high demand for goods; producers were unable to match up.
• Early 2021: Shipping snarls and worker shortages from the coronavirus pandemic continue to hurt the supply
• April 2021: Inflation rates cross 4% and increase rapidly
• Early 2022: Energy and food prices spike due to the Russian invasion of Ukraine. Fed begins its rate hike process
• June 2022: Inflation levels peak at 9% – the highest level in 40 years. S&P 500 index declines more than 20% from peak levels.
• July – September 2022: Fed hikes interest rates aggressively – resulting in an initial recovery in the S&P 500 followed by another sharp decline
• Since October 2022: Fed continues rate hike process; improving market sentiments help S&P500 recoup some of its losses

In contrast, here’s how AEO stock and the broader market performed during the 2007/2008 crisis.

Timeline of 2007-08 Crisis

• 10/1/2007: Approximate pre-crisis peak in S&P 500 index
• 9/1/2008 – 10/1/2008: Accelerated market decline corresponding to Lehman bankruptcy filing (9/15/08)
• 3/1/2009: Approximate bottoming out of S&P 500 index
• 12/31/2009: Initial recovery to levels before accelerated decline (around 9/1/2008)

AEO and S&P 500 Performance During 2007-08 Crisis

AEO stock declined from nearly $26 in October 2007 (pre-crisis peak) to $10 in March 2009 (as the markets bottomed out), implying that AEO stock lost almost 62% of its pre-crisis value. It recovered post the 2008 crisis to levels of around $17 in early 2010, rising roughly 74% between March 2009 and January 2010. The S&P 500 Index saw a decline of 51%, falling from levels of 1,540 in September 2007 to 757 in March 2009. It then rallied 48% between March 2009 and January 2010 to reach levels of 1,124.

AEO Fundamentals Over Recent Years

AEO revenues declined from around $4.3 billion in 2019 to about $3.8 billion in 2020, due to the impact of Covid-19. However, sales rose back to $5 billion in 2022, as demand picked up. Earnings per share declined from around $1.13 in 2019 to a loss of $1.26 in 2020, although it rose to about $0.69 in 2022. In 2022, inflation has curbed consumer spending and pushed up freight costs for the company, as well as supply chain challenges. Its Aerie brand has grown despite the macroeconomic environment, while its namesake brand has struggled with tough comparisons to its post-pandemic recovery.

Conclusion

With the Fed’s efforts to tame runaway inflation rates helping market sentiment, we believe American Eagle Outfitters stock has the potential for strong gains once fears of a potential recession are allayed.

What if you’re looking for a high-performance portfolio with a low downside instead? Here’s a reinforced value portfolio that has beaten the market consistently while limiting losses during periods of sharp market declines.

[1] Month-to-date and year-to-date as of 5/31/2023
[2] Cumulative total returns since the end of 2016

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