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Is Shake Shack Inc. (SHAK) Still a Worthy Stock Investment?

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Alger, an investment management firm, published its “Alger Small Cap Focus Fund” third quarter 2021 investor letter – a copy of which can be downloaded here. During the third quarter, the largest portfolio sector weightings were Health Care and Information Technology. The largest sector overweight was Health Care. The portfolio had no exposure to the Financials, Materials, Real Estate, or Utilities sectors. You can take a look at the fund’s top 5 holdings to have an idea about their best picks for 2021.

Alger, in its Q3 2021 investor letter, mentioned Shake Shack Inc. (NYSE: SHAK) and discussed its stance on the firm. Shake Shack Inc. is a New York, New York-based restaurant company with a $2.9 billion market capitalization. SHAK delivered a -16.63% return since the beginning of the year, while its 12-month returns are down by -5.43%. The stock closed at $70.68 per share on October 22, 2021.

Here is what Alger has to say about Shake Shack Inc. in its Q3 2021 investor letter:

"Shake Shack, Inc. was among the top detractors from performance. Shake Shack is a modern day "roadside" burger stand serving a classic American menu of premium burgers, hot dogs, crinklecut fries, shakes, frozen custard, beer and wine. Founded by Danny Meyer's Union Square Hospitality Group ("USHG"), Shake Shack was created by leveraging USHG's expertise in sourcing premium ingredients, community building, hospitality, fine dining and restaurant operations. There are currently 339 locations, including restaurants in 32 U.S. states and the District of Columbia and 116 international locations in cities like London, Hong Kong, Shanghai, Singapore, the Philippines, Mexico, Istanbul, Dubai, Tokyo, Seoul and more.

Shares of Shake Shack underperformed in the third quarter due to a slower-than-expected recovery in urban locations and a lower-than-expected margin outlook. Sales at Urban locations were still down 18% year over year in July compared to a 23% decline in May, a modest improvement but less than expectations. We believe a delay in return to work has caused a temporary stalling in the company's margin recovery, but this should improve as urban mobility increases and tourism from foreigners normalizes. On margins, the company guided to 15%-17% restaurant-level margins, which was below expectations of 18.9%. This margin outlook factored in higher wage inflation, which the company will begin to offset with a 3.5% price increase in the coming months. We believe margin recovery can potentially follow a sales recovery so near-term revenue choppiness may result in margin weakness but we believe the company is well positioned for when the environment normalizes as the pandemic winds down. Ultimately, we believe the pandemic accelerated Shake Shack’s digital efforts, so the company is currently positioned to benefit from a strong online presence. Digital was only 12% of sales in the early months of 2020, but that increased to 47% as of the second quarter of this year."

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Based on our calculations, Shake Shack Inc. (NYSE: SHAK) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. SHAK was in 20 hedge fund portfolios at the end of the first half of 2021, compared to 23 funds in the previous quarter. Shake Shack Inc. (NYSE: SHAK) delivered a -30.03% return in the past 3 months.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

At Insider Monkey, we scour multiple sources to uncover the next great investment idea. For example, lithium mining is one of the fastest-growing industries right now, so we are checking out stock pitches like this emerging lithium stock. We go through lists like the 10 best EV stocks to pick the next Tesla that will deliver a 10x return. Even though we recommend positions in only a tiny fraction of the companies we analyze, we check out as many stocks as we can. We read hedge fund investor letters and listen to stock pitches at hedge fund conferences. You can subscribe to our free daily newsletter on our homepage.

Disclosure: None. This article is originally published at Insider Monkey.