Daily Gains Letter

Restaurant Sector: Two Contrarian Players to Watch

By for Daily Gains Letter |

Restaurant SectorWhy the Restaurant Sector

This may be a surprise to you, but one of the top-performing sectors over the past few years has been the restaurant sector. While there has clearly been some euphoric buying, the fact that we are seeing stronger job growth and rising home wealth in the U.S. has helped as well.

If you look at the chart of the Dow Jones U.S. Restaurants & Bars Index, you can see the upward moves, highlighted by several breakouts along the way, including the recent breakout from the sideways channel. I doubt the gains ahead will be as dynamic for the restaurant sector, but there will continue to be opportunities to accumulate stocks on price weakness.

Dow Jones US Restaurants & Bars Chart

Stock chart courtesy of www.StockCharts.com

Restaurant Sector Stocks: Top Gainers

When I talk about the restaurant sector, many of you may immediately think of McDonald’s Corp. (NYSE/MCD). But, as I recently wrote, the seller of the “Big Mac” has its work cut out for it to turn things around, given the immense competitive pressures in the restaurant sector.

I’ve talked about the merits of Chipotle Mexican Grill, Inc. (NYSE/CMG) on price weakness, as this company is showing that it’s still one of the top players in the restaurant sector. The company just announced it would be using only non-GMO foods. With the growing number of people concerned about GMOs in their food, this can only mean a growing clientele for Chipotle Mexican Grill.

However, with the strong price gains in the restaurant sector, there are some questions regarding the loftiness of the top gainers. To guard against this, a strategy I’m particularly fond of is looking at contrarian stocks in the restaurant sector that are currently struggling but showing some promise.

Contrarian Restaurant Sector Plays: Where the Opportunity Lies

A contrarian small-cap stock I was keen about in the past was Denny’s Corporation (NASDAQ/DENN), known for its “Grand Slam” breakfast. The stock was trading at around $6.20 when I looked at it. Denny’s is now trading at $11.79, up 86.44% over the past 52 weeks. It has easily outperformed the S&P 500 advance of 13.28%, as well as the 1.57% decline by McDonald’s.

The key to Denny’s turnaround was its decision to sell many of its company-owned stores to franchisors, resulting in lower expenses while boosting franchise fees.

Looking for other contrarian plays in the restaurant sector is tricky. A small-cap that has some promise is Ruby Tuesday, Inc. (NYSE/RT), which has been edging higher on the chart after some encouraging results. Despite this, however, there’s plenty of work yet to be done. The stock is down 4.81% over the past 52 weeks, but Wall Street is expecting improved results in FY15 and FY16 (ending in May). Insiders have also been buying, which is always a good sign.

Another contrarian player to watch for in the restaurant sector is small-cap Chuy’s Holdings, Inc. (NASDAQ/CHUY), a provider of value-driven authentic Mexican food. The competition is fierce in the Mexican restaurant space, but I feel Chuy’s holds some promise.

Chuy’s is well below its 52-week high of $38.88; it has underperformed the S&P 500, with its 35.81% decline over the past 52 weeks. An encouraging sign is that revenues have increased in three straight years and the positive trend is expected to continue at 17.7% this year, followed by 16.3% to $335.55 million in 2016, according to Thomson Financial. Earnings are also estimated to follow revenues by going higher.

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