Trading Nation

Here's what's behind the great meat rally

The great chicken rally
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As the broader market remains flat on the year, one batch of names — poultry stocks — are flying high.

Recently, investors have been flocking to large meats providers such as Hormel and Tyson, both of which have surged more than 20 percent in the past three months.

Jonathan Feeney, food and beverage analyst at Athlos Research, said the outperformance is attributable to, fittingly, a sort of "chicken and egg" scenario.

Thanks to an outbreak of bird flu this year, supply of chickens and turkeys has dipped, driving up prices and thus profitability for companies like Hormel and Tyson. While companies would ordinarily increase supply in such a situation, each supplier is worried about increasing it at the wrong time, Feeney said. This means that the oddly high profitability has been maintained.

"If you look at all of the protein stocks, everybody keeps waiting for what have been some very, very high increases in profitability over the past couple years to go back in the other direction. And I guess because everybody in the industry believes it's about to happen, it's just not happening," Feeney said Thursday on CNBC's "Trading Nation."

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In November, Hormel reported that turkey sales decreased 2 percent in its fiscal year, while operating profit increased 1 percent. Tyson reported that year-over year fresh chicken volume rose 1.5 percent for the most recent quarter on 3 percent higher pricing. In the past month, Tyson's chicken volume fell 2 percent on a 2 percent increase in pricing.

"In terms of the supply challenge, fortunately it's been a benign fall thus far," Hormel CEO Jeffrey Ettinger said on the company's late November earnings call. "We were able to completely refill our barns. But ... we will not be fully back to normalized volumes until, at the earliest, the second quarter of fiscal 2016."

Meanwhile, as investors continue to pile into these stocks, they should be wary of the risks involved, Feeney said.

"Where investors have been reticent in the past to put that kind of multiple on it, they're getting impatient and starting to buy more," he said. However, "above median margins plus well-above median multiples is not a really good combination, and I think it speaks to a little bit more risk than reward."

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More gains for either of these stocks should be used as an opportunity to trim long positions, according to technician Craig Johnson of Piper Jaffray. More broadly speaking, Johnson said the entire consumer staples sector is seeing elevated valuation levels, trading 30 times higher than the median trailing price-earnings ratio going back to 1982.

"To me it seems more of a sector issue, and this has been more of a hiding spot for investors," Johnson said Thursday on "Trading Nation." "Certainly Hormel and Tyson fit into that category."

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