Li & Fung Calls at 2011 High on Profit Outlook: Options

Options traders are turning bullish on Li & Fung Ltd., the Hong Kong-based supplier to Wal-Mart Stores Inc., betting on a revival of its American operations after the stock lost 61 percent of its value.

Calls with an exercise price 10 percent above Li & Fung shares cost 2 points more than puts, according to three-month options data compiled by Bloomberg. The gap, which widens as demand from bulls increases, jumped to 3.18 points on Feb. 21, the most since April 2011. Profit will climb 21 percent in 2014, the average analyst estimate shows. The stock closed at HK$10.20 today in Hong Kong, down from HK$25.93 in January 2011.

Li & Fung has changed management and cut brands to revive its U.S. unit, buying Lornamead Acquisition Ltd., the owner of brands including Finesse and Aqua Net, last year to expand the company’s market share in personal-care products. Investors are betting that Li & Fung, which gets more than 80 percent of its revenue from the U.S. and Europe, will benefit from global growth forecast to accelerate this year to the fastest pace since 2011.

“People should be turning more positive on Li & Fung,” Nicholas Studholme, a Hong Kong-based analyst at Sun Hung Kai Financial Ltd., said in a telephone interview on Feb. 21. “U.S. consumer spending is improving slowly and will probably get better. There should be an upward drift in the company’s profit margins following the acquisition of higher-value added assets and completion of the U.S. restructuring.”

Changing Sentiment

Analysts have raised ratings on Li & Fung since the supplier said on Jan. 6 that its 2013 performance was solid, matching its forecast, which it didn’t specify. Mizuho Securities Co. lifted its rating on the stock to buy from neutral on Jan. 13. Li & Fung said it will announce a three-year plan in March.

Of the 21 brokerages covering the stock, 52 percent have buy ratings, compared with 22 percent a year ago, according to data compiled by Bloomberg.

After slumping the past three years, the company’s shares are trading at 15.5 times estimated earnings, the data show. While that’s lower than the five-year average multiple of 23.3, the stock is expensive compared with the benchmark Hang Seng Index, which trades at 10.2 times forecast profits.

“I don’t think investors would be too interested to buy Li & Fung for the time being,” Ben Kwong, chief operating officer of KGI Asia Ltd. in Hong Kong, said by phone on Feb. 25. “Valuations still look relatively high. Investors need to see concrete signs of improvement in the company’s earnings.”

Economic Rebound

Global gross domestic product will increase 2.9 percent this year, up from 2.1 percent in 2013, as the U.S. rebounds and Europe exits a recession, economist surveys compiled by Bloomberg show.

The U.S. economy expanded at a 3.2 percent pace in the fourth quarter as consumer spending climbed the most in three years, while the unemployment rate fell in January to the lowest level since October 2008.

The HSI Volatility Index, which tracks the cost of options on Hong Kong’s Hang Seng Index, fell 4.8 percent today to 17.01. Europe’s VStoxx Index slipped 0.6 percent to 16.14 yesterday.

The ratio of outstanding puts to calls on Li & Fung dropped to 1.3-to-1 yesterday, near the lowest level of the year, data compiled by Bloomberg show. There were a total of 17,789 bullish contracts, compared with 23,138 bearish ones.

Expensive Calls

The cost of Li & Fung calls relative to puts is the second-highest of any stock on the Hang Seng Index, Bloomberg-compiled data show. Short interest fell to 7.2 percent of shares outstanding on Feb. 25, the lowest since September, according to Markit, a London-based provider of financial information.

Annie Leung, a spokeswoman for the company at its public relations firm, GolinHarris, declined to comment on the options trading.

Li & Fung said in a Jan. 6 statement that its 2013 performance was in line with its target to return to 2011 levels, after net income fell the prior year for the first time since 2008. Earnings will jump 21 percent in 2014 and 16 percent in 2015, analyst estimates compiled by Bloomberg show.

“There’s been a turnaround in sentiment after the management came out last month to say 2013 was solid and that they’ll be meeting their target” for earnings, Vineet Sharma, an analyst at Barclays Plc in Hong Kong, said by phone yesterday. “This will continue. I think it can deliver double-digit growth going forward.”