Retail sales are expected to rise this holiday season, but investors in the sector may not have reason to celebrate.
Deep discounts offered by store chains between Thanksgiving and Christmas could cut into their already thin profit margins, making stocks of the companies less attractive.
“I wouldn’t buy retailers whole hog,” said Marie Driscoll, who heads the retail analysts’ group at Standard & Poor’s. “We would be very selective.” Driscoll also said she would avoid the sector in December.
Data compiled by Driscoll’s group shows that, over the past 15 years, the Standard & Poor’s retail index has lagged the Standard & Poor’s 500 index in December and January, but the retail gauge’s performance has topped the broader index consistently in February, March, May and November. The best numbers were churned out in the third and eleventh months of the year.
Stocks of retailers probably generate “excess” returns in February and March because investors respond to fiscal year results for the companies “as well as outlooks for the coming year,” Standard & Poor’s said in a recent report.
Adrian Bachman, portfolio manager of the Rydex Retailing Fund (RYRAX), said he does not believe that retail stocks will get a boost from holiday sales this year, unless they come in “far above expectations.” He sees sales improving by at most 6% over 2004.
Driscoll’s unit is looking for gains of about 3.5%-4%. That, however, is below the 6.7% increase reported for the 2004 season by the National Retail Federation, a trade group. It also lags the NRF’s latest estimate that combined retail sales for November and December will increase by 6% over last year.
Standard & Poor’s and Bachman expect retailers to benefit because gasoline prices have declined since early last month. That makes it more likely that consumers will make discretionary purchases, Driscoll’s group said. Conversely, home heating bills could jump if winter arrives early, potentially putting a damper on holiday sales, Driscoll’s group said.
Sales should also get a leg up, industry observers said, because household incomes have risen and unemployment has fallen in recent months, leaving people with more money for shopping.
In addition, Bachman thinks retailers will be helped because they started advertising for the holiday season earlier this year than in the past.
Standard & Poor’s also believes that holiday promotions, which traditionally start the day after Thanksgiving, started earlier this year, and that it is possible that retailers are trying to get shoppers in the stores before the heating bills arrive.
Although it expects all consumers to be pinched by higher energy costs, Driscoll’s group thinks affluent consumers are less likely to be hurt because these costs represent a smaller proportion of their overall spending. Because of that, they forecast that retailers offering luxury goods to see strong demand.
Among retail stocks, Standard & Poor’s has selected Abercrombie & Fitch Co. (ANF), Coach Inc. (COH), and Wal-Mart Stores (WMT) as its 5-STARS holiday picks.
Bachman’s fund uses computer programs to determine which stocks to buy and sell. These analyze things like earnings, stock valuations, cash flow, and returns on equity. Retailers that currently score high on the screens, Bachman said, include Sears Holdings (SHLD), American Eagle Outfitters (AEOS), and Dress Barn (DBRN).
In addition to Rydex Retailing, people who want to own retailers through a mutual fund can invest in the Fidelity Select Retailing Fund (FSRPX), and the ICON Consumer Discretionary Fund (ICCCX).
Options for investing in the sector through exchange-traded funds include the S&P Select Consumer Staples SPDR Fund (XLP), the S&P Select Consumer Discretionary SPDR Fund (XLY), Merrill Lynch’s Retail HOLDRs (RTH), and the PowerShares Dynamic Retail Portfolio (PMR).
InvestmentAdvisor.com has more mutual fund news from Standard & Poor’s available here.