Shares of Advance Auto Parts, Inc. (NYSE:AAP) are up by more than 10% in afternoon trading today following the release of the automobile aftermarket parts supplier’s second quarter financial results this morning. The main driver of the profitable day for the stock’s shareholders was the profit of the company itself, which earned $150 million in the second quarter, or $2.27 per share when adjusted for amortization costs, beating estimates of $2.25 per share. While revenue posed a potential speed bump to the stock’s ascent, as it came in slightly below expectations of $2.38 billion at $2.37 billion, that has proven not to be the case. Shares have now risen by 19.25% year-to-date, and by more than 30% since the start of May. 
The stock has also enjoyed a strong upward trend since joining the S&P 500 after the close of trading on July 8, replacing the departing-via-merger Family Dollar Stores, Inc. (NYSE:FDO). The gains were consistent with the bullish hedge fund sentiment we witnessed towards the stock in the first quarter of the year among the funds we track. 42 hedge funds held $1.38 billion of the company’s shares on March 31, with the value of their holdings showing a substantial increase from $994.1 million held on December 31, even as the number of funds with holdings decreased by four. As the stock also declined by 6% during the first quarter, the large increase in the value of the smart money’s holdings showed they were pouring capital into the stock, a very clear bullish signal. Funds we track owned 12.63% of Advance Auto Parts, Inc. (NYSE:AAP)’s shares as of March 31.
Most investors don’t understand hedge funds and indicators that are based on hedge funds’ activity. They ignore hedge funds because of their recent poor performance in the bull market. Our research indicates that hedge funds partly underperformed because they aren’t 100% long. Hedge funds’ fees are also very large compared to the returns generated, which reduces the net returns delivered to investors. We uncovered through extensive research that historically, hedge funds’ long positions in certain stocks actually outperformed the market greatly, and it has held true to this day. For instance, the 15 most popular small-cap stocks among funds has beaten the S&P 500 Index by more than 84 percentage points since the end of August 2012. These stocks returned a cumulative of 142% vs. less than 58% for the S&P 500 Index (read the details). That’s why we believe investors should pay attention to what hedge funds are buying, particularly in the small-cap sector, rather than what their net returns are, which the media primarily focuses on.
Of funds that have filed for the June 30 reporting period, we see a more bearish trend. While David Harding’s Winton Capital cut his position by 44,737 shares, Benjamin Smith’s Laurion Capital initiated a new position in the stock of 106,700 shares. Likewise, Matthew Hulsizer’s Peak6 Capital Management was showing further bullishness towards the stock in the second quarter, building his position of call options to 82,700 underlying shares from just 10,000 underlying shares held at the end of the first quarter. However, Ken Griffin’s Citadel Advisors sold off its large stake of 523,944 shares, and smaller long positions were closed by a few other funds we track. However, as not all filings are in for the period yet, it’s still far too early to make any proclamations on the current sentiment of hedge funds.
Given the bullishness the smart money displayed towards the company earlier this year, and the strong cost-cutting measures it is undertaking to improve its profitability, including closing underperforming stores and slashing corporate jobs, measures which were announced this week ahead of the latest earnings report, we believe Advance Auto Parts, Inc. (NYSE:AAP) remains an attractive investment.
Disclosure: None
