Ride the momentum: Apparel stocks soaring at 52-week highs

Now that the volatility index (VIX) has dipped below 15%, markets are calm; finding momentum and good trading opportunities may seem like finding a needle in a haystack. However, one can be your savior when looking at the year-to-date performance of some sectors.

Consumer discretionary stocks must be recognized for carrying the economy forward in the past two quarters, so much so that even GDP rates went into positive territory and beat economist expectations, where consumer activity in the United States received most of the credit.

Moreover, you can check this out by comparing the year-to-date performance of the Consumer Discretionary Select Sector SPDR Fund NYSEARCA: XLY, which has beaten the broader S&P 500 by as much as 12.0% so far. Within this ETF, a few jewels won't stop shining anytime soon.

Price action is key 

Spreading out this sector to find where markets have rewarded and punished stock prices, price action will be your compass to start this stock-picking journey. The first tool in your arsenal is to compare today's stock prices against their 52-week highs.

The industry is trading at an average of 89.3%, which confirms that it is not quite in a bear market, defined as a 20% or higher discount from these highs. However, only two names seem to carry the sector forward in this massive momentum.

American Eagle Outfitters Inc. NYSE: AEO and Abercrombie & Fitch Co. NYSE: ANF trade at respective 97% and 99% rates, essentially their 52-week high with no significant discount. 

Well, in case you've been stuck to your screen doing diligent work and research to beat the market this final quarter, a visit to your local mall could begin to paint the real-world picture. These firms have significantly remodeled their store concepts. 

Where American Eagle and Abercrombie used to cater to the younger crowd, flashing colors and fast fashion fabrics, their stores and new clothing selections seem to have opened the gates to a broader audience. Markets have indeed taken an interest in what this may imply.

Overview of the story 

During the second-quarter 2023 earnings results for American Eagle, management reported a 22% increase in gross profits, with a nearly 8% increase in margins. It points to pricing power as part of the company's improving inventory environments and strengthening demand.

The outlook for the future was also revised higher still, with management pointing to these trends expected to continue, so reinventing the brand and its selections has paid off. 

Abercrombie looks to be hopping on the same growth train that is helping the industry move forward and sustain its bullish momentum. The second quarter 2023 results have brought additionally pleasant statistics for this business. 

Starting with a 16% advance in net sales, a 9.6% expansion in operating margins and a revised higher outlook, the apparel industry no longer has any inventory nightmares.

You can jump across verticals and notice that other industry anchors have confirmed these trends, such as what Simon Property Group NYSE: SPG has been doing lately: rallying 7.2% in the past week. Its projections reflect the strength of the consumer in brands such as American and Abercrombie. Suppose tenants like these were not present in Simon's properties. Could this stock afford to pay you an annualized dividend yield of 6.3%? It beats inflation in the U.S. and puts 10-year treasury yields to shame.

Other firms have dropped the ball and are lagging behind these two rockstars. Competitors in the space, names like GAP Inc. NYSE: GPS, are also trading near 52-week high prices, though the upside left seems to be capped.

American Eagle carries a 15.1x P/E multiple, which aligns with the industry average of 14.5x and is pretty valued despite its vast momentum. While slightly more expensive than American at 16.8x P/E, Abercrombie is still not too high to be considered a value stock relative to its momentum.

GAP stock is being valued today at a much more expensive 25.1x multiple, severely capping the potential upside movement in the stock price. Want momentum? Stick to these smaller but more nimble players.