3 Reasons Why Target Stock Looks Compelling on This Dip

Unless a recession is just around the corner, Target stock is a compelling buy

Target stock - 3 Reasons Why Target Stock Looks Compelling on This Dip

Source: Mike Mozart via Flickr (Modified)

Target (NYSE:TGT) hasn’t had a great couple of weeks, but Target stock could still be a good deal. Even though tech stocks have been the biggest victims in the recent stock market rout, retail stocks aren’t too far behind.

Due to concerns that bigger tariffs will push up input costs at the same time that higher interest rates will dilute consumer enthusiasm, retail stocks have fallen off a cliff over the past few months. Since September, the SPDR S&P Retail ETF (NYSEARCA:XRT) has dropped nearly 20%.

This has been among the primary troubles for Target stock. The all-in-one department store reported sub-par third quarter numbers that pointed to persistent margin weakness becoming a bigger problem than previously anticipated. Ever since then, it’s been down and out for Target stock. As of this writing, Target stock trades 25% off its mid-2018 highs.

But where there’s rubble, there’s opportunity.

That is exactly what you have with Target stock. For contrarian value investors who believe the U.S. economy isn’t heading into a recession any time soon, this dip in Target stock looks like a golden buying opportunity.

Why? Let’s take a deeper look at three big reasons why Target stock looks tasty here.

The U.S. Consumer Is Strong

First off, in order to believe Target stock is a buy on this dip, you have to believe that the U.S. economy isn’t heading into a recession over the next six to twelve months.

While recession likelihood odds are growing, they still remain low. The Cleveland Fed’s recession indicator signals just a 20% likelihood of a recession within the next year. That’s up big from 4% at the beginning of the year. But, it’s also down big from the 30%-plus levels it was at in early 2000 and early 2007, right before prior stock market peaks and recessions.

Right now the U.S. consumer remains strong thanks to strong labor market conditions wherein everyone is working and wages are rising. The economy remains strong with GDP growth still projected at 2%-plus over the next several years. Debt levels are growing, but are in-line with long term averages on a net debt basis.

Rates are creeping higher, but still remain historically very low. And, while the inner most part of the yield curve has inverted (spread between the two-year and five-year Treasury yields), the all important 10-2 year inversion hasn’t happened yet, and there is usually a long lag time between that inversion and a recession.

Overall, the outlook for the U.S. economy and consumer remains healthy. So long as this outlook remains favorable, Target stock should be supported by resilient consumer strength tailwinds.

Target Is Reporting Decade-Best Numbers

Thanks in part to a strong U.S. consumer and in part to omni-channel growth initiatives, Target is currently reporting its best numbers in over a decade.

Target started the year with a bang, reporting 3% comparable traffic growth. At the time, that was the best comparable traffic growth Target had reported in over a decade. Since then, things have only improved.

In the second quarter, comparable traffic growth hit 6.4%, the best mark on record, and third quarter comparable traffic growth remained strong, at 5.3%.

All the while, comparable sales growth has also been running at decade highs of 5% and up. This is expected to continue next quarter, with comparable sales projected to rise 5% in Q4.

The big driver behind this growth? Target’s red-hot digital business. Over the past several quarters, Target has aggressively built out its omni-channel capabilities and enhanced its digital presence. In so doing, the company has aligned itself with the burgeoning e-commerce trend. The results speak for themselves. Last quarter, Target’s digital sales grew by nearly 50%.

All indications are that this momentum has persisted in the early part of the holiday shopping season. Online search interest trends related to Target spiked to multi-year highs during Black Friday weekend. Meanwhile, foot traffic analytics firm Placer.ai reported an impressive 11% increase in foot traffic for Target stores during Black Friday weekend.

The Valuation Is Attractive

While the U.S. consumer is as strong as ever and the company is reporting decade-best numbers, Target stock has sold off to incredibly cheap levels.

On a forward basis, Target stock is trading at just 12X earnings. That is dirt cheap. Not only is it cheap for the market, which trades at 15 forward earnings, but it’s also cheap for Target stock, which normally trades at 16 forward earnings.

Meanwhile, Target now has a 3.8% dividend yield. That is nearly double the market-average dividend yield. It is also substantially above the stock’s trailing five year average dividend yield of 3.2%.

Overall, you have a company reporting decade-best numbers with a favorable U.S. consumer backdrop, yet the stock is trading at a below-average valuation and has an above-average yield. This combination of strong fundamentals and weak valuation creates an attractive value proposition for contrarian investors. Ultimately, this discrepancy should correct itself.

When it does, Target stock will bounce higher.

Bottom Line on TGT Stock

If the U.S. economy is indeed heading into a recession and currently robust consumer confidence and strength suddenly collapse, then Target stock is a sell.

But, anything short of that, Target stock is a buy here. I don’t think we have a recession in 2019. As such, I think Target stock is a buy here, with the all the damage from slower growth in 2019 having already hit the stock price.

As of this writing, Luke Lango was long TGT. 

Article printed from InvestorPlace Media, https://investorplace.com/2018/12/target-stock-compelling-dip/.

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