Retailers Rally as Report Rethinks Recession

Retail stocks rallied sharply Monday following a Goldman Sachs note bucking the conventional wisdom that the U.S. economy is heading for recession.

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Slowing consumer spending has weighed on retail sales in recent weeks, battering the retail sector in the wake of a dismal holiday shopping season. And while a Federal Reserve interest rate cut this month sparked a short-lived rally, worries over the economy have dominated the retail landscape.

In its report, Goldman upgraded a long list of retailers on the prediction that worries about the economy are overblown: "Favorable signals from our leading indicators of spending, combined with the likelihood of declining fuel costs, a tax cut and further interest rate reductions, suggest that real spending growth will rebound to 4% in the second half from an estimated 3% currently," Goldman wrote. The S&P 500 retail index rose 4.5%.

The brokerage raised its ratings for Federated Department Stores (FD Quote), Target (TGT Quote) and Sears (S Quote), putting all three on its recommended list. Shares in Federated rose $3.80, or 9%, to $41.38; Target rose $2.69, or 8%, to $35.44; and Sears jumped $2.85, or 8.5%, to $36.53.

Goldman added Gap (GPS Quote) to its U.S. recommended list, raising its 12-month price target to $40 and boosting the retailer from its previous outperform rating. In the report, analyst Barbary Miller said the company is paying greater attention to efficiency, adding that the firm holds out hope for Gap's new merchandise. Shares in the Gap rose $3.19, or 12%, to $29.19.

Analyst Margaret Mager upgraded several other apparel stocks, including Jones Apparel Group (JNY Quote), Polo Ralph Lauren (RL Quote), Nautica (NAUT Quote) and Tommy Hilfiger (TOM Quote), in part because valuations are so low. Most apparel stocks, she said, have suffered so much in the past couple years that price to earnings ratios for many stocks are at 10-year lows. This, combined with the more rosy economic outlook taken by Goldman, led to the upgrades, according to the report. Jones shares rose 88 cents to $37.38; Polo Ralph Lauren jumped $1.56, or 6.5%, to $25.50; Tommy shares added $2, or 17%, to $13.50; and Nautica rose $1.81, or 5%, to $16.88.

Retailers not included in Goldman's report also benefited from the rally. Shares in Home Depot (HD Quote), which dropped last week after warning investors that earnings would fall short of expectations, rose $2.63 to $43.63. And Toys R Us (TOY Quote) shares were at $24.75, up $1.44. (Goldman has had banking relationships with Ralph Lauren, Tommy Hilfiger, Gap, Sears and Target.)