It’s an important week for retailers as industry giants prepare to release their third-quarter earnings. While the results are expected to be good, investors shouldn’t anticipate spectacular numbers. The challenge lies in managing slower sales growth while aiming for potential improvements in margins.
Slower Growth, Lower Inflation
Analyst Bobby Griffin from Raymond James points out that the prior couple of years have seen above-normal growth, so a slight slowdown is expected. Additionally, inflation is lower compared to the same period last year. While lower prices can benefit consumer spending in the long run, it may impact retailers’ short-term results, making it more difficult for them to match or exceed recent sales growth.
Earnings Season Kickoff
Earnings season begins with Home Depot (HD) reporting on Tuesday, followed by Target (TGT), TJX Cos. (TJX), Walmart (WMT), and Macy’s (M).
Cautious Wall Street
Wall Street remains cautious about the retail sector. According to FactSet, the consensus estimate for aggregate earnings per share for companies in the SPDR S&P Retail ETF (XRT) has dropped by 2% since September 29. While the retail exchange-traded fund is down 1% this year, the S&P 500 has risen by 15%.
Concerns on Consumer Spending
Investors are particularly concerned about companies heavily reliant on discretionary spending. They fear that challenges like inflation, higher interest rates, and resuming payments on student loans may impact consumers’ spending power. Analyst Greg Melich from Evercore ISI notes that discretionary cracks started to become more prominent during the quarter, with big-ticket purchases being particularly affected by interest rate increases.
Home-Improvement Sector Under Pressure
Similar concerns are weighing on the home-improvement sector, which has struggled throughout the year. Home Depot’s shares have declined by 8% while Lowe’s (LOW) saw a 2% decrease. Higher home prices and mortgage rates have discouraged people from moving and embarking on renovation projects.
Off-Season Challenges and Potential Opportunities in the Retail Industry
As the retail industry enters its off season, there are concerns about its future. The third-quarter earnings do not seem likely to alleviate these worries. However, amidst the doom and gloom, certain companies, particularly those in the off-price and discount space, have managed to benefit from the current economic environment. Analysts suggest that these companies, including Walmart, TJX, and Ross Stores (ROST), may continue to thrive this quarter. In fact, earnings estimates for these companies have been slightly raised in recent days, as reported by FactSet.
Interestingly, while overall retail foot traffic in the third quarter fell by 2.8% compared to the previous year, discount stores experienced a 3.4% increase in foot traffic, according to data from Placer.ai. This notable increase in foot traffic to discount stores is a positive sign amidst the decrease in consumer visits to other retailers during the same period.
It is important to note that despite the decline in consumer visits to retailers during the third quarter, retail sales have continued to grow steadily for three consecutive months, defying economists’ expectations. However, sales are expected to have dropped in October, based on FactSet’s projections. The Census Bureau is scheduled to release the official data for October later this week.
In addition to these observations, there is another silver lining for retailers. Freight and production costs have decreased, which means that many retailers have the opportunity to improve their gross margins and overall profitability as a result.
According to Griffin, an expert in the industry, even if there is a slight decrease in top-line sales growth, retailers can offset this with more favorable benefits from their supply chain. The Street is likely to react positively to any news related to margin expansion. However, it is expected that updates on the outlook of the industry, including expectations for the upcoming holiday season, will have the most significant impact on the market.
In conclusion, while the retail industry faces challenges during its off season, there are certain companies that have managed to capitalize on the current economic conditions. The increase in foot traffic to discount stores and the steady growth of retail sales despite declining consumer visits are promising signs. Additionally, the decrease in freight and production costs presents an opportunity for retailers to improve their profitability. Moving forward, market reactions are anticipated to be influenced by updates on margin expansion and the overall outlook of the industry, particularly regarding the holiday season.
