Three Retailers to Survive the Holidays


Three Retailers to Survive the Holidays

A bleak forecast for the holiday-season sales doesn't mean you should shun retail stocks.

'Tis the season of loathing. The National Retail Federation forecasts that holiday retail sales will increase a mere 4% this year. That's below the 4.8% average growth for the past ten years. The NRF blames the summer's credit crunch and the housing slump for the slower shopping season.

But retailing is hardly monolithic, and the outlook isn't bleak for every company. We'll identify three names -- two that cater to teens and one that sells electronics -- that could make good stocking-stuffers right now.

In truth, history is on the side of retail stocks -- at least for the moment. They tend to beat the market six months after an initial rate cut from the Federal Reserve (the Fed trimmed its key short-term rate by a half percentage point on September 18). And retail stocks generally perform best from November through January, according to Standard & Poor's research.

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Many retail stocks, though, are "trading as if we're definitely going into a recession and that the consumer has crawled up into the fetal position and not ever going to spend again," says Adrienne Tennant, a specialty retail analyst with Friedman Billings Ramsey.


Tennant expects teenagers to do much of the heavy spending this holiday season. There's a pattern as to who stops shopping. First, the man of the house cuts back his purchases and mom follows. Then the kids are forced to swap the Gap for Wal-Mart. But teens persevere. Their parents' financial worries may put a dent in allowances, but they have cash from baby-sitting or flipping burgers and a will to spend what they earn.

Abercrombie & Fitch appeals to teenager appetites, Tennant says. The strength of its brands, especially its Hollister stores, which are geared to teens, helps the company maintain its profit margins even when other retailers suffer.

Moreover, Abercrombie has room to grow internationally. After successful launches in Canada and London, it plans to open a flagship Abercrombie store in Tokyo in 2009. Tennant says the company could roll out as many as 500 Hollister stores in Europe over the next several years.

If the uncertainty in the market causes investors to flee to quality retail stocks, Abercrombie is likely to benefit, she says. The stock (symbol ANF), up 1.7% on October 5 to $84.23, trades at 14 times the $5.98 per share that analysts expect the company to earn for the year ending January 2009. Tennant rates the stock an "Outperform" and thinks the shares are worth $100.


Pacific Sunwear is another retailer nimble enough to cater to teenage tastes. The company gets about 70% of its $1.5 billion in sales from branded merchandise, as opposed to private-label products it designs or produces. That means Pacific Sun is able to adjust its inventory more quickly than rivals to reflect fashion trends. "It's the place where teens go if they want something different," Tennant says.

A mediocre 2006 means the company has a lower bar to clear this year to make gains. The stock (PSUN), which soared 6.4%, to $16.70, on October 5, trades at 20 times the 82 cents per share analysts expect the company to earn for the year ending January 2009. Tenant rates the stock an "Outperform" and thinks it is worth $21. The company "is one of the most compelling margin expansion and turnaround stories for 2008," she says.

Fashion is a cruel mistress. A missed trend can have a devastating effect on a retailer's sales and earnings, especially for companies that outfit fickle teens. If you want a safer retail play, consider Best Buy.

"Household electronics is a cutthroat business, but Best Buy is well-positioned to survive and prosper as competitors get squeezed out," writes George Putnam, editor of The Turnaround Letter, in the October issue. Putnam, who has delivered sparkling long-term results by focusing on beaten-down stocks, says that Best Buy's stock (BBY) has made little progress in recent years, even though the company has continued to produce fine revenue and profit growth.


But things are improving for Best Buy, says Raymond James analyst Dan Wewer. "Best Buy is capturing market share at a faster rate, which is contributing to its revenue growth exceeding the lackluster performance suggested by independent services that track shipments and sales," he says. The shares gained 1.4% on October 5, to $49.15 and trades at 14 times the $3.63 per share analysts expect the company to earn for the year ending February 2009. Wewer rates the stock a "Strong Buy 1," Raymond James' highest rating, and thinks it is worth $62.