Crocs: Forget the Cheese

I don’t want to give the impression of being on a soap box with all the lessons recently, but given the action by Crocs (CROX) on Friday, I just can’t resist. Ironically, I’m writing this on my balcony in Back Bay, Boston, on a sunny Sunday morning … wearing my Crocs flip-flops. No love allowed in the market!

I think the biggest challenge most investors (including myself) have with the market is respecting its message. That is, they ask “why” too much, always wanting to understand a stock’s movement. And if there isn’t reason for the movement, they figure the stock will “come back.”

Hey, that can sometimes work; there are always overreactions in the marketplace. But if you consistently ignore the market’s message, you’re going to get hurt.

We owned Crocs in the Model Portfolio in our Cabot Market Letter from October 2006 through November 1, 2007. We made well over 100% in the stock, but when we sold it, the stock had just gapped down a massive 36% on earnings. Yet the earnings report was better than expected, and analysts were actually upping their estimates -people thought the firm would earn north of $2.60 in 2008.

Well, I know a thing or two about how the market works, and one of my rules is that if a stock suffers a very sharp break on earnings, I sell. Period. End of story. Such massive breakdowns are telling you perception is changing for the worse … and in a hurry. In fact, the bigger the gap down, the more I want out the door.

Yet most investors thought it was an overreaction; after all, earnings beat expectations, the outlook was rosy and growth was still in the triple-digits. Plus, after the drop, the stock was selling at a forward P/E ratio of 17, which is very reasonable for a fast-growing company.

CROX continued to slip significantly, however, plunging from 45 after its big earnings drop, to below 10 in recent months. (Its all-time peak was 75–see weekly chart below.) But even as late as this week, analysts thought the firm was on track to earn $1.52 per share for the year … making the stock seem like a ridiculous bargain, with a P/E of about 6! The market had set its trap well.

On Thursday evening, the company’s management said that earnings for the second quarter would be near break even, instead of the expected $0.41 a share. And that went for all of 2008, too–little or no earnings, as sales slacken and costs rise. All those “cheap” arguments went up in smoke in a minute. CROX ’s reaction: It fell 45% (!) on Friday. The action of the stock itself for the past many months was telling you something was seriously amiss … even though analysts weren’t.

There’s a story of an old market player who had some strict sell rules. When a stock started going against him in a big way, he was famous for saying “Forget the cheese, let me out of the trap!” Yet too many investors willingly walk into such traps by refusing to respect the market’s message.

The lessons here: Pay attention to the action of the market and your stocks. Buy only strongly uptrending stocks during bull markets. And remember to limit losses (to forget the cheese) with all your growth stocks, no matter how much you like a product or company. For me, I like my Crocs flip-flops … but love the fact we sold the stock many moons ago.

Disclosure: none

Comments

[He who walk behinde the rows]

Come on. Why is everybody missing the obvious. Isn´t there anybody who have understood that crocs "sue&destroy&... strategy will backfire any time soon. As an investor I should report Crocs to the SEC, and have them look thru the prospect for the IPO. Crocs doesn´t have any utility or design patents that has any value. Period!!! They Mislead everybody. And to prove to the market that they have patents they sues everybody. But now the wind has changed. They are losing. They are under attack. Both from Competitiors that are sueing them back and from thier own shareholders. Just look at OHIM´s and ITC´s recent decisions... What people needs to ask is this: Does a company that is involved in legal fights all over the globe, is that a company focusing on growth and profit maximazing? Probably not. If they just had one valid patent they could fight for, but they have none!
Whats more interesting is that there will always be big market for EVA clog (crocs, holeys, waldies, shaka, skechers, air walk etc etc). Not for 30-40$ a pair but for 2-3$ a pair! Eva clogs is just like any other flip-flop. It will never die. But you won´t see any companys going for an IPO based on it again...
If you bought it (the stock) for 50$, so hold. If you bought it for 10$ sell it and cut the loss!

[jbde]

So, you have been short CROX the whole time since that first drop?
Otherwise hindsight is only 20/20.
Truth is, the 'prospect' of good news - rosey eps predictions keeps investors buying - good for those who want to short.
My self-programmed system removes the human from making such mistakes and only follows the movement of the stock - any stock - and makes long/short orders through a direct-access broker.
The system bought CROX a little over 7 after its 2nd dip below 7 held by a penny. I sold at 9.88 the day it ran to 10.55. The order to sell was placed shortly after the open when it dropped to around 9.30. By shear coincidence, the stock closed the day [after the shorts were gunned] at 9.88 - the system's sell price. CROX was on it 6 day of advances and was long in the tooth, I had programmed for such instances where the move would be culminated by a high volume spike. Check to tape and you will he the heistation when it reached my sell order and then took it out and blew through to over 10.
Then of course, any reason for selling a long position is a reason to open a short - so it did at 10.02 and added to it at 10.35 - theory is that the move was exhausted and any 'gunning' thereafter is free money - and it was. Short was covered on the open 2 days later - over and out. Better fish now - long and short.
Of course, if the announcement had come out on day 5 of the move, I would have gotten creamed. The system only sees what it happening and of course can be blindsided - nothing is perfect. I can only tell it when earning are due, dates of presentation, etc. - known events where volatility rules are 'flagged' to kick in.
Happy trading - CROX has real products and earnings power and will likely stick around - I'll be back when the action warrnats it.

[John Pseudonym]

I sold this stock last year before the top on the "silent" advice of my tween girls (they didn't think they were really cool anymore).

This is called a fad people. Yeah, some fads become mainstay but most blow up when you least expect and go away for decades if not forever.

[Aruna Joshi]

Sir,

I liked the article- but it is too late. Between Nov'07 and 25th July'08,
I lost $60K on INAP/ESLR & CROX-If I would have come accross you like person- I would have saved my hard earned money. The reports of Analysts are real crap and the message boards. Most of the time they mislead the new comers in this line. I suggest, you keep posting such good articles and help investing communities- God will Bless you for giving correct advice. Would you please tell me about your views on NYX. I have 400 shares @$61 approx- please tell me whether I should hold-- if anything happens to this, it is end of the affair with US stock market... I need your advise..I am ready to pay you for your advise. My email address is aruna_joshi2011@yahoo.... Kindly reply. Thanks & Rgds

[Daniel Jacome]

Piper Jaffray had BUY on it all the way down....hmmmm

[Gumby]

Crocs makes molded shoes and everyone calls them faddish. Well, Crocs is the only one that use croslite that is closed air foam form of plastic something that resists bacteria growth and athlete's foot, I suppose. Forget the numbers, I will eat the cheese .. The trap will not break me ... It will be broken..

[Gumby]

maybe podarists are all over Crocs trying to stop Crocs from succeeding...

[Gumby]

There is a lot of back stabbings going on Wall Street. I guess I better hurry and enjoy the cheese...

[Fish Gone Bad]

This was a very nice article. Thank you.

I heard about Crocs one day on the radio. They were discussing them on some ladies investment club news report. I told my wife, if they are talking about buying Crocs on the radio, you definitely do not want to own the stock.

I picked up a pair of them at the mall and put the garish monsters back. They appeared to be nothing more than injection molded plastic. China could reverse engineer the design in a week and have them on the market in 6 months. Even if they are not just plastic, they look like plastic.

The sell advice is sound. If a company is not acting like it is supposed to, then something is wrong and it should be sold. You can always buy it again if things straighten out.

[Fedman]

I appreciate what you are saying, but does this mean that I should sell AAPL because it fell right after it's last earnings, which beat expectations but had lower guidance?

If CROX had good management, who could control costs and inventory and didn't hold misleading analyst conferences before announcing a huge miss, I would be will to ride the ups and downs. But since there is a fundamental competancy issue here, I will not hold CROX. However, I will hold Apple as their management continues to over deliver and under promise.

[Buy It]

Hold on to Crox..You might as well hold on to a firecracker. This stocks getting ready to blow all to sh*t. Never invest in a stock that specializes in just one fad and doesn't have a way out when things get hairy.....For those who tripled their money from 2006 to Nov 2007 well consider yourself LUCKY.....NOT a wise investor......