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Retail Stocks Priced for a Very Merry Christmas
Related Quotes
| Symbol | Price | Change |
|---|---|---|
| NILE | 48.66 | 0.00 |
There is an expectation building in the market that I just can't support – and it has everything to do with the American consumer. Retail stocks are trading at elevated multiples on expectations that the consumer is healthier then economic data suggests. But don't be fooled, these stocks are expensive and the last thing you want to do going into the New Year is buy an overpriced stock - especially when you should be bargain hunting.
American consumers will begin to show their true colors when they make an appearance at their favorite mall or retail outlet this Black Friday - the official kick-off to the holiday shopping season.
The Friday after Thanksgiving marks the day when many retailers can count on high store traffic as consumers hit shopping malls and web sites around the country. But it can also be a rather dark day for consumers who find themselves racing through isle after isle to get the goods, crammed elbow to elbow while they wait in the cashier's line, and sit in traffic with the rest of the county.
While this may indeed be a Black Friday for retailers and consumers, I'm not expecting great results from the overall holiday shopping season.
But don't tell that to the market, as it seems to think boon times are ahead for the retail sector. The stock market is pricing in a strong holiday shopping season according to the current price level of the S&P Retail Index (Chicago Options: ^RLX). The index is trading just 1.8% below the 52-week high it hit last Monday, and at levels not seen since September of 2008. And since the 2009 March lows, the index has outperformed the broader S&P 500 by 15%.
For an industry that has experienced the negative impact of this recession first hand, it seems surprising that investors have flocked to retailers. Certainly the retail companies that have survived the downturn thus far are likely to remain in business through this economic cycle. But the dismal financial performance of many retailers makes it difficult to justify the recent run up in their share prices. And the recent rise of retail stocks tells me the market has priced in more than we should expect out of this year's holiday sales.
What is the market thinking? The official unemployment rate is at 10.2%, the highest in 26 years, and an unhealthy increase from 6.6% unemployment rate at this time last year. Just as important, nearly one in five people in the U.S. are either unemployed or underemployed, and are unlikely to be big spenders come holiday shopping season.
Unemployment is only one of the many headwinds facing the retail sector. Consumer credit has been reduced to a fraction of pre-recession levels, with bank credit contracting by $500 billion. The piggybanks that paid for our over-consumption in the last decade – our homes – are now valued at 30% below their peak. Just look at the cover of today's Wall Street Journal which says '1 in 4 Borrowers Under Water'. The home is certainly not exactly the piggybank of the past.
Add in a lack of consumer confidence and spending - both of which contributed to a downward revision in 2009 Q3 GDP from 3.5% to 2.8%, and it's clear the retail sector has gotten ahead of itself, and darker days may lie ahead for the all important holiday shopping season.
I know this sounds a bit doom and gloom, but I can't always be an optimist, especially when I see such a frothy market for retail stocks.
Just take a look at these small cap retailers and their rich valuations. Blue Nile (NasdaqGS:NILE - News), an online jewelry retailer is trading at 79-times trailing twelve month earnings. Overstock.com (NasdaqGM:OSTK - News), which sells overstocked items at discounted prices, is trading at 53-times 2009 earnings. Or athletic clothing makers Lululemon Athletica (NasdaqGS:LULU - News) and Under Armour (NYSE:UA - News), trading at 53-times and 34-times trailing earnings, respectively.
Analysts from Deloitte's Retail group expect $810 billion in holiday gift sales, unchanged from 2008. Last year marked the first decline in holiday spending since 1967, when it fell 2.4%.
With all the pressures facing consumers today, I expect that retailers may not be having much to celebrate this holiday season. And while Americans will still have a very Merry Christmas, it is likely to be with fewer gifts. As for the retailers, the strong ones will survive, but there are better sectors than retail for investors to put their hard earned dollars.
On a housekeeping note, our office will be closed on Thursday and Friday of this week in observation of Thanksgiving. You'll receive the SmallCapInvestor Daily newsletter as usual tomorrow, and I'll resume publishing again next Monday.
Good luck with your Turkey shopping.
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