Good inflation news may keep customers’ wallets open, but will they reach beyond the bargain brand?
Q1 spending strong, but March’s banking headwinds reset some shopping lists.
Retail bankruptcies are already at year-end 2022 levels.
Alex Coffey, Senior Trading Strategist, TD Ameritrade
If inflation really is slowing, as some data suggest, it couldn’t come at a better time for the nation’s retail sector.
Q1 big-box store results are coming in just ahead of summer home improvement spending, and July’s start to the back-to-school spending season that many consider a harbinger of the holidays.
So will shoppers hit the checkout, the road, or TV screens waiting for a potential debt crisis settlement in Washington? That could also make this month’s retail earnings calls a little more interesting too.
Major retailers like Walmart (WMT), Target (TGT), Home Depot (HD), and Lowe’s (LOW) report their latest quarterly numbers over the next two weeks after most wrestled with rising prices in late 2022. Many shared conservative guidance early this year, and executives expressed concerns about consumer sentiment in these high-rate, high-inflation times.
By now, most analysts’ estimates seem to confirm that caution was warranted, though most major retailer results look solid (see more below).
But there have been a few surprises in what’s typically seen as the slowest retail quarter of the year. Jones Lang LaSalle (JLL) reported that “sustained inflation and banking troubles”—referring to the sudden banking crisis in March—have continued to erode retail fundamentals. “Consumers have responded to persistent inflation by shifting money away from discretionary goods…in favor of groceries and other key necessities” with discounters and online retailers in the winners’ column.
However, the consumer discretionary sector, which includes some big retailers, has been one of the main stock market drivers so far this year. But now that comes with a caveat. While the Consumer Discretionary Select Sector index ($SP50025) is up about 16% year to date, most of those gains were confined to the first month of the year.
Since then, the sector has been relatively flat, perhaps in part due to widespread worries the economy could still go into recession soon.
FIGURE 1: NEEDS AND WANTS. After galloping inflation became the biggest economic story of 2022, the S&P 500 Consumer Discretionary Sector index ($SP500#25—candles) had begun to recover during the first weeks of 2023, even as rates continued to rise. Then came the failure of Silicon Valley Bank on March 10, and staples took back the spotlight with the S&P 500 Consumer Staples Sector index ($SP500#30—pink line) going from a nearly 2% decline to a nearly 21% gain as of mid-May. Data source: S&P Dow Jones Indices. Chart source: thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.
Bankruptcies up; malls down
JLL noted that Q1 retail bankruptcies—led by last month’s Chapter 11 filing and store closings by Bed Bath & Beyond (BBBYQ)—are just about to eclipse 2022’s full-year total. Filings so far include such national names as Party City (PRTYQ), Tuesday Morning (TUEMQ), and David’s Bridal, the largest wedding gown retailer in North America.
Meanwhile, Macy’s (M), the nation’s largest department store chain, continued resetting its brick-and-mortar footprint for a mix of mall and non-mall locations. As for what’s happening at the malls left behind, JLL noted they’re increasingly being redeveloped as office, medical, and residential space for lack of stores willing to fill them. Shares of Simon Property Group (SPG), the largest U.S. mall owner, are down nearly 10% for the year.
Tune in for guidance
Retail earnings could be a good chance for investors to get an on-the-aisle view from executives on their consumer sentiment, which plays such a big role in shaping the economy. Consider paying close attention to the earnings calls for any insight into what people are buying and how much inflation continues to squeeze purchases. Have consumers returned to making discretionary buys, or are they still tightly squeezing the Charmin, so to speak, and sticking with staples?
Other issues retail executives could address include:
- Online growth: In February, the U.S. Department of Commerce reported that 2022 ecommerce sales topped $1 trillion for the first time ever (double revenues only three years ago).Inflation’s bite: April’s data suggest inflation may not take as big a bite from recent quarterly retail results. The April Consumer Price Index rose 4.9% year over year, the lowest since April 2021. It’s still high historically but has generally been coming down since last summer.Wholesale relief: The April Producer Price Index, which tracks wholesaler prices, rose just 2.3% year over year, the least it’s grown since early 2021. Sometimes lower producer prices eventually lead to lower consumer prices down the road.Hiring strength: Another potential positive for retailers is continued light unemployment, which fell to a new year-to-year trough of 3.4% in April. Wages continue to rise sharply, up 0.5% in April, perhaps creating more confidence among consumers about spending. However, that can also spell trouble for retailer margins because higher wages can mean they have to pay more to keep their employees.Debt default debate: From Wall Street to Main Street with Washington in between, investors may want to learn what a potential—if still unlikely—failure to resolve the debt ceiling could mean for U.S. spending power at home and abroad.
Finally, how enthusiastic is the shopper? Consumers spent freely during much of Q1, though the government recorded softness in Retail Sales data during February and March after a robust January. Those numbers, however, included automobile sales, which looked relatively underpowered during the quarter and lowered the overall sales number. With autos excluded, retail sales generally seemed healthy at least from the perspective of payment companies.
Visa (V), for instance, said revenues rose 11% in its most recent quarter, with payments volume up 10%. Because that volume nearly kept up with actual revenue, it suggests the growth didn’t simply reflect price inflation. Low unemployment (near 3.5% much of Q1) possibly kept customers from coming through retailers’ doors, and high mortgage rates that led to a tighter housing market suggests more people are staying put and perhaps making renovations, which would play into the strengths of companies like HD and LOW. Lots to unpack here, and once we do, we’ll have a better sense of how consumers are holding up amid inflation and high rates.
Here’s a quick look at what to watch for as the following retail leaders report:
Home Depot (HD) and Lowe’s (LOW)
HD’s scheduled report date: Tuesday, May 16, before the open
- Expected FY Q1 EPS (analysts’ consensus): $3.80Year-ago FY Q1 EPS: $4.09Expected FY Q1 revenue (analysts’ consensus): $38.32 billionYear-ago revenue: $38.91 billion
LOW’s scheduled report date: Tuesday, May 23, before the open
- Expected FY Q1 EPS (analysts’ consensus): $3.46Year-ago FY Q1 EPS: $3.51Expected FY Q1 revenue (analysts’ consensus): $21.66 billionYear-ago revenue: $23.66 billion
What to listen for on the earnings call
We’re about to find out how discretionary home renovation spending is.
Often when mortgage rates climb, as they have this past year, homeowners are more likely to stay put and fix up what they have rather than move. Will earnings from HD and LOW back up that idea? Investors don’t seem enthused, judging by how shares of both companies have treaded water so far this year and remain well below recent peaks.
One reason is inflation, which has raised the price of materials for home renovation to the attic. Supply disruptions last year also hurt, but earnings reports could help investors learn if those are now fully behind the two giant home supply companies.
HD projected flat sales and comparable sales growth for fiscal 2023 and also forecast a diluted EPS decline in the mid-single digits. Check closely when HD reports to see if the company makes any changes to that relatively gloomy outlook.
The forecast from LOW was also on the gloomy side last time out as the company projected comparable sales to be flat to down 2% from 2022. The challenge for both LOW and HD is to find a way to keep the glow following huge growth during the pandemic years when so many were stuck at home and decided to add things like home offices and extra bedrooms.
Scheduled report date: Wednesday, May 17, before the open
- Expected Q1 EPS (analysts’ consensus): $1.77Year-ago EPS: $2.19Expected Q1 revenue (analysts’ consensus): $25.33 billionYear-ago revenue: $25.17 billion
What to listen for on the earnings call
TGT provided a conservative outlook when it last reported, and executives there cited a challenging environment. Consumers were more likely to buy necessities and skip discretionary purchases, the company said at the time. Profit margins shrank, in part, due to this trend.
TGT hasn’t been able to get out from under the earnings weakness, recently trading down 14% from the 2023 high posted back in early February. That could be in part because TGT’s full-year EPS guidance of between $7.75 and $8.75 was so far below Wall Street’s average expectation of $9.23. Inflation was among executives’ main concerns when they spoke to reporters following the last earnings report, so it’ll be important for investors to get a sense of how TGT leaders see inflation progressing from here and if it’s been less of a barrier recently to discretionary spending.
There’s also one more outlier in the mix—the world after BBBYQ, as it plans to close all locations by July. From discounters to department stores, plenty of retail executives have likely been reevaluating their housewares, linens, and small appliances mix to snag shoppers clutching their last handful of Bed, Bath & Beyond coupons and still looking for cookware and comforters to buy.
Scheduled report date: Thursday, May 18, before the open
- Expected Q1 EPS (analysts’ consensus): $1.31Year-ago EPS: $1.30Expected Q1 revenue (analysts’ consensus): $148.54 billionYear-ago revenue: $141.57 billion
What to listen for on the earnings call
WMT shares have been on the rise since early March despite a relatively soft outlook the company issued the previous month that disappointed some investors.
When it last reported in February, the company told investors that discretionary spending was under pressure from inflation and forecast revenue gains of just 2% to 2.5% for the fiscal year ahead, excluding fuel. Analysts had expected 3% growth, CNBC reported. WMT reiterated that guidance at its investor day last month.
However, optimism about the stock appears more widespread now. Last week, Barron’s reported that Citigroup (C) said WMT is poised to beat earnings estimates and raise guidance. Analysts now expect WMT to post earnings per share above the company’s guidance for $1.25 to $1.31.
The C note also said WMT has been successful lately and will remain so across various elements of the U.S. retail landscape, including online, off-mall, convenience, and value.
Further, during last month’s investor day, WMT management outlined a plan for what it calls a “new more connected and automated supply chain, which will improve the experience for its customers and simultaneously increase productivity.” WMT stores will continue to operate as a place to shop but will also operate as fulfillment centers and delivery stations, according to WMT’s press release. Distribution and fulfillment centers hold a mix of items, from suppliers and sellers. “This allows Walmart to use its existing assets more flexibly and efficiently,” WMT added.
Best Buy (BBY)
Scheduled report date: Thursday, May 25, before the open
- Expected Q1 EPS (analysts’ consensus): $1.13Year-ago EPS: $1.57Expected Q1 revenue (analysts’ consensus): $9.54 billionYear-ago revenue: $10.65 billion
What to listen for on the earnings call
It’s likely people are still getting a lot of use out of those computers and gadgets they bought en masse during the pandemic. So BBY announced in April that it plans to eliminate “hundreds” of workers who sell more complex electronics like computers and smartphones and is in the process of “evolving” its stores and “experiences” to better reflect “changes in shopping behavior.”
What changes exactly? That’s why you dial into the call.
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