By Sabrina Escobar
The retail industry has been a tough place to invest this year. Concerns about the negative impact of inflation and high interest rates on consumer spending have stifled enthusiasm for all but a handful of fast-growing industry leaders, such as Costco Wholesale and Walmart.
That could change, however, as rates start to fall and companies that have stumbled begin to correct their missteps. To get a read on next year's possible winners, Barron's recently consulted Mari Shor, a senior equity analyst who has covered consumer stocks for nearly 20 years from her perch at Columbia Threadneedle Investments.
Shor joined the investment firm in 2003 as an associate, and began to focus on retail stocks four years later. Today she heads up the consumer research team, working with portfolio managers across numerous funds to find stocks that best fit their strategies and criteria.
Barron's spoke with Shor in October and again in mid-November about how to invest in the rapidly changing retail industry, and what to expect from this year's holiday shopping season. An edited version of the conversation follows.
Barron's : How would you describe Columbia Threadneedle's strategy for investing in the retail sector?
Mari Shor: A lot of the retailers we own are long-term winners, such as Walmart, Costco, Amazon.com, and TJX Cos. We try to stick with those winners, but also look for turnaround stories that might offer upside. We're looking to create baskets for those two different types of stocks.
What makes a company -- and a stock -- a winner in today's retail landscape?
Value and convenience are resonating with consumers as the cumulative impact of food and housing inflation continues to weigh on households. We see that in Costco's business, which is doing incredibly well. We see it in the strength of Walmart and off-price retailers such as TJX, Burlington Stores, and Ross Stores. It is also about product and marketing, because without a good product, consumers really don't care.
We have also seen the importance of good supply chains, especially during the Covid era. You can have the best product in the world, but if you have too much of it, or if you aren't able to adjust to a changing backdrop, that's a big problem.
Will the winners this holiday season differ from the companies you have identified as winners in the sector?
The value message resonates even more strongly during the holiday shopping season. Everyone is looking for a deal. We have seen the biggest players, such as Walmart and Amazon and Target, try to stay on top of the trend. So, no, I don't see a big difference unless a retailer does something irrational on the promotional side to try to drive traffic.
If anything, the start to earnings-reporting season has confirmed the widening gap between the winners and losers. We saw strong reports from companies such as Kontoor Brands [an apparel company whose brands include Wrangler and Lee] and Ralph Lauren, and pretty weak reports from companies such as VF Corp., Canada Goose, and Estée Lauder.
Which retail categories will perform best this holiday season?
Traditional apparel is always a strong gifting category. Beauty remains a category that consumers, and especially younger consumers, are gravitating toward. And consumer electronics is a hot category during the holidays.
Winning retail stocks tend to trade at high multiples of earnings. Are they still a good buy?
You have to talk stock-by-stock in terms of the potential upside drivers. Investors are still willing to pay a premium for consistent, quality growth. Given the volatile macro backdrop and the weakness in certain parts of the consumer-discretionary sector, the consistency premium has gone up even more.
However, there are idiosyncratic drivers for certain stocks that support a premium multiple. The best example is Walmart. It is fundamentally a different company today than 10 years ago. It has become a true omnichannel retailer that is also building out alternative profit drivers, similar to Amazon, that will change the P&L [profit and loss] and the growth algorithm. Yes, Walmart is trading at a premium partly because of that "consistency" premium, but also because the business is changing. In the future, it will grow at a higher rate than it did historically.
What are some of the catalysts for growth among companies in your turnaround basket?
Most of the companies in that turnaround or almost contrarian bucket are in the traditional apparel space. We saw the strength in athletic apparel and loungewear in the Covid period, and now consumers are gravitating back toward traditional apparel. Also, a couple of companies have new management that is instilling greater financial and operational discipline into these businesses. You don't need a lot of top-line growth to generate significant margin expansion, earnings growth, and capital return to shareholders.
Plus, a lot of these companies are trading at very attractive valuations. Some of the names in that group are Gap, Victoria's Secret, PVH Corp., and Kontoor Brands.
Which companies or segments are you concerned about?
The continued normalizing of demand in the athletic space, plus some execution issues, is something we have to keep an eye on. You're seeing a significant difference right now between the players gaining share and those losing it, such as Nike or Under Armour.
We still see weak demand and pricing trends for anything big-ticket, whether it's TVs, appliances, certain sporting goods, or recreation vehicles -- anything that was strong during the pandemic.
The final category that bears watching is certain parts of the value segment. Companies such as Walmart, the warehouse clubs, and even Target are gaining share, and it feels like that has come at the expense of the dollar stores.
How are department stores faring?
Department stores are doing a good job of managing their businesses and inventory conservatively. But it feels like we are back to the prepandemic market in that they are share donors to specialty players and some of the larger retail companies that offer better value and convenience, such as off-price retailers and Amazon.
The luxury-goods market has been weak for much of this year. What is the holiday outlook?
A lot of the trends we're seeing now are going to continue as we move through the holidays and beyond. There are probably five things I would cite.
No. 1, consumers bought a lot of goods during the pandemic when they couldn't do anything else. Now they are back to traveling and doing other things. Second, luxury companies are exposed to China, and business there has really softened. Third, there is a lot more competition in this space than people think. And fourth, aspirational customers who received stimulus checks during the pandemic now have worked through that cushion of savings and are no longer able to afford those luxury items.
The fifth thing is exposure to the wholesale channel. A lot of luxury-goods companies were more exposed to luxury department stores, and those businesses haven't been good.
What should investors do?
We are seeing a wide gap between the winners and losers, even in luxury. LVMH Möet Hennessy Louis Vuitton is probably the safest way to play the sector, because it is the most diversified luxury company, and a lot of its brands are doing well.
The retail sector hasn't been popular with investors this year. The XRT, or SPDR S&P Retail exchange-traded fund, is up far less than the S&P 500. What is the long-term outlook for retail?
Retail is a low-single-digit growth category, and that is exactly where we see it running today. Within the sector, we still see some meaningful shifts in market share. Services are growing faster than goods, needs faster than wants, and e-commerce faster than bricks and mortar.
The overall performance of the sector hasn't been great, but shares of companies such as Walmart and Costco are up by double digits year to date. You have to be selective. We expect a lot of current trends will continue in 2025.
Most holiday forecasts have pegged this season's sales growth at between 2% and 3.5%. Does that sound right to you?
I don't have an explicit forecast for holiday sales. You have to take a lot of the survey work about what consumers are planning to spend for the holiday with a grain of salt.
There has been concern about the election and the shorter holiday season this year, but I don't see a huge headwind from those things. Black Friday and Christmas are going to be strong, but we could see a trough in the business between those two periods, and that is going to weigh on overall sales growth for November and December. But retailers are positioned well into the holiday, and inventory is generally well controlled. I don't expect aggressive promotions or markdowns, given the fact that inventories remain lean.
Will inflation, or other macroeconomic factors, keep consumers from spending?
Even as we have seen prices moderate, the cumulative impact of inflation is weighing on consumer discretionary spend. That will continue into the holiday. Although we are starting to see green shoots in certain parts of discretionary, some of the big-ticket parts of these businesses remain weak.
That said, there are reasons to be positive. When you listen to the big bank CEOs, who have a good view of the consumer, they all say the consumer is fine. Jobs are growing, and real wages are finally increasing.
At the same time, sentiment is still more reserved as a function of inflation. So, even while you can say the consumer is fine, it still feels like consumers are being choosy in how they spend.
Will the holiday season be too early for consumers to feel any meaningful impact from lower interest rates?
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November 15, 2024 21:30 ET (02:30 GMT)
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