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Travel and Leisure Stocks Bounce Back

Consumer cyclical stocks are overvalued.

The consumer cyclical sector is off to a solid start in 2021, bolstered by the sector’s strong end to 2020. While the 4.2% returns in the first three months of 2021 may appear modest (in line with the market’s 6.0% marks), this follows robust returns of nearly 92% over the trailing 12 months, far outpacing the 58% gains posted by the broader market.

Consumer cyclical shares performed in line with the broader market - source: Morningstar

But after accounting for these gains, the median consumer cyclical stock is now trading at a 17% premium to our fair value estimates. The market’s exuberance has been particularly pronounced for apparel retailers and manufacturers, which have benefited from a rise in "athleisure" wear and increased e-commerce. These companies are trading 25%-30% above our assessment of intrinsic value. However, we think intense competition is likely to make recent performance difficult to sustain.

We view the sector as overvalued - source: Morningstar

We do expect consumer spending to ramp up as vaccines become more widespread over the coming months. Personal consumption was down 15% in April 2020, and though it has rebounded, it is still below 2019 levels.

Lagging personal consumption in 2020 leaves consumers poised to spend - source: Morningstar

On the other hand, both disposable income and the saving rate peaked in April 2020 and remain elevated. This combination leads us to believe that consumers, though eager to spend (boat sales, for example, hit a 10-year high in 2020), have been inhibited by pandemic-related restrictions.

Travel is one area that we expect consumers to direct their disposable income over the coming quarters, particularly as it relates to leisure travel. Historically, it has taken the travel industry about four years to completely rebound after a crisis, and our estimate of a full recovery by 2024 hews to that theory. But we don’t subscribe to the belief that corporate travel will track at a similar pace, with the recovery extending until 2026. Long term, we think that with a rise in remote and hybrid work, employees will have more flexibility and that leisure trips will increase, offsetting the decline in corporate travel. As such, we feel hotels with a lower corporate mix will benefit, poised to chalk up sales growth that through 2030 exceeds our projected U.S. industry 2020-30 average revenue per available room of 2.1%.

A lower corporate mix should bolster RevPAR among some hotels - source: Morningstar

Top Picks

PVH PVH Star Rating: ★★★ Economic Moat Rating: None Fair Value Estimate: $113 Fair Value Uncertainty: High

Trading at a 13% discount to our fair value estimate, no-moat PVH offers good value for investors. The firm’s sales in North America have been inconsistent, but its two key brands, Calvin Klein and Tommy Hilfiger, have solid international appeal and growth opportunities in markets like Europe and China. While the pandemic caused losses for PVH in 2020, it has significant earnings power (adjusted EPS of more than $9.50 in 2018 and 2019), and we do not believe it is at risk of falling into financial distress. Additionally, we expect no significant changes to strategy or capital allocation under new CEO Stefan Larsson.

Hanesbrands HBI Star Rating: ★★★★ Economic Moat Rating: Narrow Fair Value Estimate: $24 Fair Value Uncertainty: Medium

We think narrow-moat Hanesbrands, currently trading at a 17% discount to our fair value estimate, is an attractive option for investors. Bolstered by solid innerwear and activewear performance, Hanes’ 2020 fourth-quarter earnings exceeded our sales and earnings expectations despite some disruption from the pandemic, which bodes well for 2021. We think Champion, especially, is in good position as the crisis fades, as it aligns well with the athleisure fashion trend. Additionally, we view Hanes’ new cost reduction and growth plan, Full Potential, favorably, as it suggests a renewed focus on its leading brands and expense optimization.

Malibu Boats MBUU Star Rating: ★★★ Economic Moat Rating: Narrow Fair Value Estimate: $90 Fair Value Uncertainty: High

Trading at a 15% discount to our fair value estimate, narrow-moat Malibu Boats is an excellent opportunity for investors looking to capitalize on the ongoing powersports craze. Though it boasts a smaller market capitalization than some competitors in the category, Malibu has made a name for itself as a top-notch innovator and serial acquirer (most recently adding Maverick Boats in 2020). Malibu was well positioned to take advantage of COVID-19-related demand, having increased plant capacity 30%-40% in the past three years, and with a backlog likely through 2022, Malibu is well placed to continue gaining share.

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