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Analyst: Steer Clear of Most Retail Stocks

Deep promotions will weigh especially heavily on teen retailers


So far in 2013, retail stocks have faced headwind after headwind. First it was the payroll tax. Then it was the sequester. And we can’t forget the weather.

Despite that reality, countless stocks have continued to march higher. In fact, the Market Vectors Retail ETF (RTH) and Retail SPDR (XRT) are outpacing the market with gains of 25% and 30% year-to-date, respectively.

Of course, such a big climb also could mean there’s just more room for a reversal.

Janney Montgomery Scott analyst Adrienne Tennant seems to think just that. Tennant anticipates a weak fall season and has downgraded the sector from “Neutralweight” to “Underweight” as a result.

A few of her main concerns include:

  • Still-weak consumer environment
  • Sector-wide inventory dollar build
  • Neutral impact of cost deflation
  • Lack of incremental newness in fashion
  • Ongoing highly promotional environment that continues to be deeper than last year

Her firm’s research focuses greatly on that last bullet, and actually breaks out the changes in promotional levels — based on the first week in August — for each of the retailers it covers.

American Eagle (AEO), for example, was one of the names the report cited as offering deeper discounts in the start of the third quarter — a trend that seems to have continued from the summer season.

Remember, AEO cut its Q2 EPS forecast roughly in half last week in the face of weak sales and — yup, you guessed it — margins. The company dropped its expectations from a range of 19 to 21 cents to just 10 cents per share, and management said same-store sales slid an ugly 7% in the most recent period.

Analysts also have shaved 50 cents off the full-year forecast they had 90 days ago — a drop making up nearly one-third of the original estimate. No wonder, then, the stock has lost nearly 16% in the past five trading days.

AEO reports its Q2 numbers on Aug. 21. While there’s a chance that the biggest damage from deeper promotions and weak sales in the second quarter might already be done, there’s little reason to think the current back-to-school quarter will get any better.

Other names with deeper discounts include Chico’s (CHS) and Zumiez (ZUMZ). Meanwhile, promotions at Aeropostale (AROAbercrombie & Fitch (ANF), Buckle (BKE) and Francesca’s (FRAN) were all roughly flat year-over-year.

Even Gap (GPS), which has big gains and increasing earnings estimate in the books heading into its Q2 report, was offering slightly deeper promotions at its namesake locations, along with even deeper YOY sales at its Banana Republic locations.

The stock’s 40%-plus year-to-date gains could make investors ready to run at the slightest sign of weakness, too.

The lesson is simple: Be picky if you want to dabble in the retail sector. As second-quarter earnings — which included a weak July — are starting to trickle in, the third quarter already seems to be off to a slow start.

As of this writing, Alyssa Oursler did not hold a position in any of the aforementioned securities

Article printed from InvestorPlace Media,

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