The retail landscape has been undergoing a fundamental change, with technology playing a major role and the focus shifting to online shopping. This shift in buying pattern has forced retailers to come up with innovative ways to market their products. Retailers who have responded quickly to it by staying ahead technologically stand in good stead.
Parallel to this shifting retail landscape, the industry is facing major challenges from a still-strong U.S. dollar, volatile commodity costs and soft global economic environment. A strong dollar has resulted in lower spending from foreign tourists and is also impacting retailers with overseas operations. As a result, retailers are slashing prices and focusing on promotions to attract traffic.
How is the Sector Placed?
Although, the Retail-Wholesale sector has not been an outstanding performer, it still holds some promise, given the favorable economic indicators. Moreover, friendlier fiscal and regulatory policies from the current administration also bode well for the sector. According to the latest Earnings Outlook report, as of Mar 1, 2017, the sector is expected to record top and bottom-line growth of 4.5% and 8.8%, respectively, this year.
However, we understand that the space is not fully immune to global uncertainties, which could limit growth. We note that in the past one year, the sector has registered an increase of 11.3% compared with the S&P 500 that was up 19.7%. It carries a Zacks Sector Rank of #16, placing it at the lowest level of the Zacks classified sectors. Moreover, from a valuation perspective too, the sector looks quite stretched.
Looking at the sector’s trailing price-to-earnings (P/E) ratio, it looks pretty overvalued when compared with the S&P 500. The sector currently has a trailing 12-month P/E ratio of 25.03. This compares unfavorably to an extent with what the sector saw in the last one year. The ratio is marginally higher than the median level of 24.99 and almost near its high of 25.83 over this period. On the contrary, the trailing 12-month P/E ratio for the S&P 500 is 20.49.
Top Ranked Industries in the Sector
We remain cautiously optimistic about the sector’s overall performance going forward. A challenging retail landscape, stiff competition and waning store traffic have compelled retailers to revisit their strategies. They are now focusing more on enhancing their omni-channel capabilities, optimizing store fleet and restructuring activities.
Nevertheless, there are still some industries in the sector that are worth mentioning, as they occupy a decent position in the list of Zacks Classified industries – Retail - Computer Hardware (21 out of 256), Retail - Home Furnishings (79 out of 256), Retail - Discount Stores (88 out of 256), Automotive - Retail and Wholesale – Parts (106 out of 256), Retail - Mail Order (106 out of 256).
Is the Domestic Environment Conducive for the Sector?
The recent rebound in oil prices, a favorable labor market, and a gradual improvement in the manufacturing sector as well as the housing market signal that the economy is on a recovery mode. According to the “second estimate” unveiled by the Bureau of Economic Analysis, the U.S. economy expanded 1.9% in the final quarter of 2016.
Per the Labor Department, the economy added 227,000 jobs in January, while the unemployment rate was at 4.8%. These factors are playing a crucial role in raising buyers’ confidence, and we expect this positive sentiment to translate into higher consumer spending, which accounts for over two-thirds of the U.S. economic activity.
According to the recent Conference Board data, the Consumer Confidence Index surged to 114.8 in February from January’s revised reading of 111.6. We also note that U.S. retail sales rose 0.4%, while consumer spending increased 0.2% in January.
5 Prominent Stocks
The retail sector presents itself as a lucrative investment hub amid such a favorable economic backdrop. Here we have highlighted five stocks from the aforementioned retail industries flaunting a Zacks Rank #1 (Strong Buy) or #2 (Buy).
We suggest investing in Pier 1 Imports, Inc. PIR, with a long-term earnings growth rate of 10% and a VGM Score of “A.” In the past six months, the stock has surged roughly 63.2% and outperformed the Zacks categorized Retail - Home Furnishings industry, which declined 15.5%. This retailer of decorative accessories, furniture, candles, housewares, gifts, and seasonal products delivered an average positive earnings surprise of 23.2% over the trailing four quarters and sports a Zacks Rank #1. You can see the complete list of today’s Zacks #1 Rank stocks here.
You may also consider Tech Data Corporation TECD, which is engaged in the wholesale distribution of technology products. The stock carries a Zacks Rank #1 and has a VGM Score of “A.” The company posted an average positive earnings surprise of 7.9% in the trailing four quarters. In the past six months, the stock has displayed a fabulous bull run on the index and has risen 28.6%, while the Zacks categorized Retail - Computer Hardware industry surged 25.3%.
Investors can count on At Home Group Inc. HOME, an operator of home decor superstores with a long-term earnings growth rate of 25%. In the past six months, this Zacks Rank #2 stock exhibited a bullish run and surged 19.1%, while the Zacks categorized Retail - Home Furnishings industry declined 15.5%.
Burlington Stores, Inc. BURL, which operates as a retailer of branded apparel products, is a solid bet, with a Zacks Rank #2 and a VGM Score of “A.” The company posted an average positive earnings surprise of 26.3% in the trailing four quarters and has a long-term earnings growth rate of 15.9%. The stock has surged 13.1% in the past six months and comfortably outperformed the Zacks categorized Retail - Discount Stores industry, which grew 2%.
We suggest investing in CarMax Inc. KMX, which has a long-term earnings growth rate of 14.3%. This retailer of used vehicles delivered an average positive earnings surprise of 0.9% in the trailing four quarters and carries a Zacks Rank #2. We note that in the past six months, the stock has advanced approximately 6.2%, while the Zacks categorized Automotive - Retail and Wholesale – Parts industry has edged down 0.7%.
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