Ho Ho Ho, The Holiday Season Is Here: Retail Update

| About: SPDR S&P (XRT)

By Brian Sozzi

It feels as if Halloween was only a few days away. Now, we are gearing up for yet another holiday season. What seems like lightening fast speed from Halloween to Christmas has intensified in the last couple of years. Blame the Great Recession and the advance of smartphones; the former has caused many to work harder (see productivity measures) while the latter seemingly sucks us into a vortex of never-ending information. Nevertheless, holiday 2010 is about to kick off with Black Friday, followed by Cyber Monday, followed by Green Monday, and then wrapping up with Super Saturday. All these nicknames for pivotal sales days during the holiday season are losing their importance as internet usage to shop increases, among other factors.

Black Friday: Once represented the most significant day in the holiday season for retailers, when retailers large and small filled circulars with loss leading promotions to lure in consumers and then have them buy full-price stuff as well. In 2009, sales on Black Friday weekend increased a meager 0.5%, one part a result of recession weary consumers and one part something that's called Black Friday creep. Last year, retailers in their haste to make as much money as possible in a spendthrift environment, pulled forward promos in the weeks ahead of Black Friday. The practice has continued this year.

Some Examples:
* Target (NYSE:TGT): Free shipping online for baskets valued at $50 or more from November 21 to December 11. Four-day sales began on November 21, and includes 50% off on over 170 gift items.

* Wal-Mart (NYSE:WMT): Two-day sales offering 25% off on laptops, games, and HDTVs pre Black Friday.

* Kmart (NASDAQ:SHLD): "Bigger than Black Friday" sale prior to Black Friday.

* Overall: Promotions began in the first weekend of November.

My feeling is that discounts are sharper on key items within the toys and electronics categories, but consumers may be surprised to learn that discounts are not as prominent throughout the store compared to 2008 and 2009. Why is this case? First, retailers have made targeted inventory bets, investing capital in key traffic driving items accompanied by products that are impulse buys in lower quantity. For example, a good portion of Gap's (NYSE:GPS) 8% increase in inventory evidenced in 3Q10 was for advanced shipment of black wash and other fashion pants, which will be promoted to entice the consumer to round out the purchase with a fashion top, which may not be as heavily discounted year over year. Second, retailers are cognizant of the improved appetite by consumers to consume than in 2008 and 2009. If there has been any story that has gone underappreciated in 2010 it's the revival of the U.S. consumer. Sure households are budget-minded, but there is added room on the discretionary spending line as a result of fewer debt obligations, increased personal savings, and modest wage growth. Retailers desire to tap into that by offering creative promotions (see recent ones by Jos. A Bank and Ann Taylor) that look inviting to the eye, though are favorable to margins than those conveyed in 2009.

Cyber Monday: Sorry to be a myth buster, but Cyber Monday is not the busiest shopping day of the year, that title still goes to Super Saturday (barring a snowstorm in the Northeast and Midwest akin to 2009, which caused a -12.6% sales decline on Super Saturday). I am looking for a stronger sales growth number from retailers' online operations for Cyber Monday year over year.

1. Easy comparisons to last year: Cyber Monday sales in 2009 increased 5% predominantly on higher web traffic. This year, retailers will benefit from increased traffic (more people open to spend online, increased international shipping routes, more internet enabled devices) and dollars per transaction (this metric fell 2% last year). DPT are likely to increase from fewer sharper promotions, stronger consumption trends, online exclusives, and simply from retailers selling more goods online. Online represents 10% to 15% of a retailer's annual sales.

2. M-commerce: I think this being in its infant stages has led many to forget its long-term importance. However, this is the next growth platform for retailers. It allows them to target promos to a specific subset of people and keep the consumer engaged with the brand. Targeting a 15% promo to a specific consumer via a text message or email blast is margin enhancing as it lessens the need to discount the entire store base by 40%. Best Buy (NYSE:BBY) CEO Brian Dunn enthusiastically calls the integration of brick and mortar stores with online/m-commerce "interconnected retailing." Gap, Zara, Sam's Club, and Sears (yes, Sears, they have been plowing a ton of money online instead of the stores) have some of the best smartphone apps.

3. Social media: Facebook's 500 million plus user base is being leveraged like never before to get people to shop. Retailers have integrated their website into Facebook pages, posted videos of store openings and runway shows, flaunted promos, and posted discussions of highly rated products. It's tough to quantify how much shopping is being done as a result of social media, but retailers putting increased marketing dollars into developing capabilities on the platform suggests a high return probability. Even one new user on Facebook from last year hints at one more potential transaction from a retailer's website.

What we Know from 3Q10 Earnings Season for the Sector

1. Cotton prices and Chinese wage pressures are factors for 1H11 for some, 2H11 for most. Note the issue may end up overblown as retailers have moved production outside of China, have re-engineered product, and have been willing to place advance orders to take advantage of manufacturer discounts. With the main expense pressure on the transportation line, and perhaps a few additional hires year over year, retailers are poised to have solid 4Q10 margins. Pre-planned promos have worked well throughout the year, cost structures are in fine standing, and consumer spending has improved.

2. International remains a strong component to sales, not indicating any red signals derived from the EU debt fallout or inflation killing measures in China.

3. New items exist to drive consumer excitement (iPad, Nook Color, Kinect, Move, 3D TVs, and slimmer fitting clothes).

The Wrap

The S&P Retail Index (RLX) has outpaced the S&P 500 by thirteen percentage points year to date. I think the sector was re-ignited back in September by initial consumer surveys on the holiday season, which suggested the consumer was apt to increase discretionary purchases for holiday 2010 compared to holiday 2009. Then came the litany of holiday sales forecasts by the likes of the NRF and ICSC, projecting holiday sales gains of 2.3% and 3.5%, respectively. Retailer 3Q10 earnings have not disappointed, and guidance has basically been in line to consensus. I think the stock performance is sending a signal that holiday 2010 could surprise to the upside of forecasts. We have the U.S. consumer a little more open to splurging, an international consumer that is gobbling up goods offered by Western companies at flagship stores, retailers tailoring product to market to maximize sales and margin, and increased shipping capabilities internationally from online. Black Friday commentary by management may be slightly more upbeat relative to 2009, and Cyber Monday sales up at a stronger percentage rate than 2009, but in retail it's about the entire season as promos are spread out to increase the consumer interest in the season.

Additionally, keep in mind that 4Q10 for retailers ends in January, and January can account for 5% of a retailer's annual sales. So if the consumer splurges for the holidays, will they be back in the malls in January? We have seen in 2010 consumers tighten up the purse strings during non-holiday periods.

Disclosure: No position