Retail Downgrades Weigh on Sector

The retail sector remained under pressure as Wall Street cheered Monday's robust preliminary earnings from IBM.

The retail sector remained under pressure as Wall Street cheered Monday’s robust preliminary earnings from IBM.

This story first appeared in the January 15, 2008 issue of WWD.  Subscribe Today.

An outlook report from Goldman Sachs, which included downgrades of Sears Holdings Corp., Coach Inc. and Polo Ralph Lauren Corp., painted a dim picture for the months ahead.

The Dow Jones Industrial Average gained 1.4 percent to 12,778.15, while the broader S&P 500 climbed 1.1 percent to 1,416.25. The S&P Retail Index increased 1.5 percent to 371.86.

Buoying the retail sector were shares of Talbots Inc., up 3.7 percent to $7.32, and Target Corp., 1 percent higher to $50.49. The Bon-Ton Stores Inc. closed up 5 percent to $5.12 and Gap Inc. gained 2 percent to $17.53.

However, shares of Sears, Coach and Polo Ralph Lauren dragged down retail. At the bell, Coach shed 4.2 percent to close at $25.72, while Polo Ralph Lauren lost 4.3 percent to $52.90. Sears wrapped up the day down 5 percent to $91.38.

Goldman Sachs analyst Adrianne Shapira said in a research note that she was downgrading Coach and Polo Ralph Lauren to “Neutral” from “Buy” as a result of “recent weakness across high-end retailers such as Tiffany and Neiman Marcus, which suggest widening cracks across aspirational and high-end spend.” The analyst added that “continued sales shortfalls amongst midtier department stores” is also pressuring Coach and Polo Ralph Lauren.

“In addition, Ralph Lauren carries risk in its wholesale channel with the upcoming launch of its American Living brand across J.C. Penney department stores as consumers could demonstrate resistance to a higher price point product in this challenging macro environment,” Shapira said.

She said it was important to note that her price targets reflect upside premiums on current values of these two stocks, and the analyst said she “would not recommend that long-term investors close out positions at this point.”

Shapira’s downgrade of Sears took the stock from “Neutral” to “Sell” as she expects “the retailer to experience accelerated share loss and profit pressures in an increasingly tough macro backdrop.”

Separately on Monday, Sears said fourth-quarter earnings would be $350 million to $470 million, or $2.59 to $3.48 a share. Analysts polled by Thomson Financial had the retailer pegged to earn $4.43.

In addition, the National Retail Federation said in a statement that it expected retail sales to show a 3.5 percent gain for 2008, compared with 4 percent last year.

“It isn’t like we’re falling off a cliff; it’s a slowdown, but not the worst we’ve seen,” Rosalind Wells, NRF’s chief economist, said Monday at the trade organization’s 97th annual convention and expo at the Jacob K. Javits Convention Center in Manhattan.

Retail sales account for 70 percent of real Gross Domestic Product, which is forecast to increase just 2 percent this year, the slowest pace since 2002, she added. Wells sees shoppers paying down debt, trading down to moderate chains and discounters, and spending more in line with income growth. Apparel sales gains are predicted to fall within the year’s average, unless retailers come up with products with some excitement.

High energy costs, the housing slump and sluggish employment and income growth are making consumers anxious, Wells said, noting that “employment and income are what primarily drive consumer spending.”

Retail stocks are expected to struggle through the first half of the year, reflecting the macroeconomic downturn. Since early November, the S&P Retail Index has lost 17 percent of its value and is down 7.4 percent since the first day of trading this year. Weak macroeconomic reports on housing, inflation, consumer confidence and consumer spending are blamed for the bearish pullback of the sector.

Federal Reserve chairman Ben S. Bernanke said last week the central bank was ready to help fix a faltering economy.

Last week retailers reported sagging December comparable-store sales, which showed a decline of average comp sales in the department store sector — the first in 18 months. Overall, comps were the weakest in five years.

On Friday, RBC Capital Markets issued its consumer confidence report that showed declining spending expectations. “The decline in the overall Index, to its lowest level since data collection began in 2002, highlights the impact that rising food and fuel costs and declining housing values are having on consumer confidence,” said T. J. Marta, economic and fixed income strategist for RBC Capital Markets. “With none of these headwinds likely to abate any time soon, consumers could pull back further on spending, increasing the risk of a recession.”

What will bring back a more bullish take on the retail sector? A rebound in sales, Shapira said, adding that a “true driver for a sustained rally will be a turn in topline momentum.”