Mitigate Risk By Selling Consumer Sector Shares

by: Markos Kaminis

We’ve heard nothing but news of record setting sales from Black Friday to Cyber Monday and through the day after Christmas -- "Mega Monday." When all is said and done, though, and the final tally is taken on holiday shopping for 2011, holders of the shares of retail stores may find they’ve been short-changed. That’s because we will not learn of the impact of the deep discounting that drew in the starving crowds until later.

It began on day one -- or "zero hour" might be more appropriate -- when retailers Wal-Mart Stores (NYSE:WMT) and Target (NYSE:TGT) broke the long-standing American tradition of remaining closed on the Thanksgiving Day holiday. Some Walmart stores were open all day long, but Target got all the bad publicity for opening up for the final two hours of the holiday, beginning at 10 p.m. In fact, perhaps as a result of the publicity, it had to make up ground with more discounting after its Black Friday results fell short of the consensus of analysts’ expectations.

The extraordinary economic situation burdening America set the tone for the season, the most promotional in history. In the end, it produced great crowds and top line sales growth in aggregate, but when the pile of players is separated, it could very likely show disparate results. We saw evidence of this Tuesday, when Sears (NASDAQ:SHLD) said its poor holiday showing would force it to close 100 Sears and Kmart stores in order to shore itself up.

John Morris, an analyst at BMO Capital Markets, estimates promotional activity was up about 7% over last year, when taking into account markdown activity. This certainly brought people into the mall according to an observation of Taubman Centers (NYSE:TCO), which said most of its mall parking lots were full by 10 a.m. Christmas Eve, earlier than last year. According to Michael Niemira, the Chief Economist of the International Council of Shopping Centers (ICSC), U.S. retail sales excluding gasoline and autos, appear ready to rise 3.8% through the holiday period defined as November and December.

The ICSC also reiterated its December same-store sales forecast of between 3.5% to 4% growth over last year. All the sales numbers were solid; gift card sales jumped 18% above last year, while online sales soared 15%, but both those segments have been gaining in their share of total sales in recent years, and thus cannot offer a pure barometer for the season.

Still, the mosaic I’m laying out here is illustrating a clear picture. It’s yet another indication of deal seeking, or deals drawing in pinched consumers to spend their very last dollars in the final hours before Christmas. Stores like Toys “R” Us stayed open 24 hours a day through the week before Christmas in order ensure scooping up every sale opportunity they could.

Abercrombie & Fitch (NANF) offered a flat 40% off everything in the store, which was more than the 30% off deal it offered last year. Take note, though, of the seemingly desperate actions of some retailers towards the end of the season, because it could be an indication of retailers running short of Wall Street forecasts.

Some discounting is baked into estimates, but I suspect plenty of this year’s price cutting and other promotional efforts, including e-mail posts and wild store hours, say something more. I received a ton of emails myself from the likes of Dell (DELL), Blue Nile (NASDAQ:NILE) and (NASDAQ:FLWS). I’ve noted in years past that outside of the holiday season, many of these firms send out a slew of emails just before the close of the quarter, and I smell desperation in it.

Retail joy through December may also end up costing store operators through the rest of the winter, if not longer. Heart wrenching guilt-driven sales should put an important crimp in the spending of troubled consumers over the next few months, if not shut off the lights in some homes. Sometimes people forget that a deal still costs us something, and can draw us to make purchases we may not have made given more careful thought. In retrospect, buyer’s remorse drives a slew of returns, but watch out because savvy retailers may alter sale-driven return policies in order to cover themselves.

For now, consumers’ drunken holiday season spending seems akin to a gambler’s unstoppable confidence. This may have been evidenced by the Conference Board’s December reading of Consumer Confidence Tuesday, as it rose to near a post-recession peak. At 64.5, it was way up from November’s 55.2 mark. November, not coincidentally, saw the start of holiday shopping deals and also a 15 point surge from October’s 40.9 depressed state. Let’s be clear, 64.5 does not mark a happy state of affairs, just a better state of sadness.

Lynn Franco, director of the Conference Board Research Center, warned, ”While consumers are ending the year in a somewhat more upbeat mood, it is too soon to tell if this is a rebound from earlier declines or a sustainable shift in attitudes.” I still see mostly bad attitudes where I look. For instance, the Conference Board reports that the number of those surveyed who thought business conditions were good improved all the way up to 16.6%. And, get this, those claiming jobs were plentiful improved to as high as 6.7%. The headlines Tuesday were preoccupied with the positive shift in attitudes; I still see this economy on suicide watch.

But the malls were full, they’ll tell you! Let’s do the math. Maybe the malls were full because the prices were just right. But besides that, even pessimists must concede that we still have about 85% to 75% of the workforce at least partly employed (depending on who you ask) and 91% or so fully employed. Let’s not forget the undocumented workforce, which by now have been Americanized enough to consume like banshees. In any event, those just accounted for are still shopping if they ever did before.

Furthermore, we have like 300 million Americans with a population that is maturing into their finest shopping years, or otherwise considering a new career at McDonalds (NYSE: MCD). Meanwhile, rather than malls being built to add to capacity to meet a maturing pool of shoppers, stores have been closing over recent years (at least around my way), shuttered because of excess capacity packed in during the glory years of chain store franchising. Most important to this equation is what it has taken to draw Americans to shop, which is increasingly promotional pricing and deepening discounts.

With a still large pool of store operators, there will be winners and losers in such a competitive environment. So there’s a trade-off to win traffic, and that’s found in the profit margin, or the earnings per share that play a critical role in the movement of the shares of stocks. Since the retailers typically conclude their quarter at the end of January, we may not start to hear the warning bells until 2012. I suspect the brands known for value, like Wal-Mart, Costco (NASDAQ:COST) and even dollar stores like Family Dollar (NYSE:FDO) and Dollar Tree (NASDAQ:DLTR) will outdo most of the traditional winners, like Macy’s (NYSE:M), J.C. Penney (NYSE:JCP) and Kohl’s (NYSE:KSS). However, that all depends on how savvy the non-discounters managed the cut-throat environment.

The shares of non-discounters by trade, or those non-discounters who failed to draw traffic with competitive discounts or who discounted too steeply, would seem to me to be at great risk in the weeks ahead. So unless you are close to the game and have a good bead on the plans and developments of individual retail store stocks, I suggest you take any profits that have been gained on the reports of strong holiday season sales and mitigate risk of a letdown come earnings warning time.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.