Higher Rates May Not Keep Consumers Away

A rise in prices doesn't necessarily mean the end for retail stocks.
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Fed

decision to hike interest rates could likely spur many investors who fear the impact on consumers to dump retail stocks. But this could mean a buying opportunity for others, as a run-up in rates may not significantly affect sales at many retailers.

Sales at retailers open at least a year, or same-store sales,

were disappointing in April, compared with each of the first three months of the year, yet total sales in the month increased at most retailers on a year-over-year basis. According to Craig Johnson, president of retail consulting firm Customer Growth Partners, consumers are still spending but are being picky with what they buy.

"The consumer dollar is flowing more towards purchases that have investment characteristics vs. consumption characteristics," Johnson said. "People are investing not just to buy consumables like apparel, but stuff that has a lasting investing profile."

This means more merchandise like consumer electronics and home improvement goods, he said.

Sears

(S) - Get Report

, for example, had a 1.8% drop in April same-store sales and total sales fell 2.8%, but Johnson noted the company showed strong sales in what it calls its "hard goods business."

Long known as a source for kitchen appliances and home and yard maintenance goods, Sears is also in the process of upgrading the appearance of its electronics and appliance store sections. Additionally, the company added home appliance offerings to 35 more Sears Hardware stores, which also carry home-and-garden and paint supplies as well as tools. The company plans to add appliances to its remaining 103 hardware stores by year-end.

Further, in its latest quarter, Sears said it had solid domestic sales in its lawn and garden, tool and home electronics segments, which unfortunately were offset by weak apparel sales caused by inventory issues.

Other examples of this trend can be seen at home improvement companies

Home Depot

(HD) - Get Report

and

Lowe's

(LOW) - Get Report

, said Johnson. The two competitors will report earnings on May 17 and 18, but in their latest quarters, the companies saw sales surge. (Home Depot and Lowe's do not release monthly sales data.)

Meanwhile, electronics retailer

Best Buy

(BBY) - Get Report

posted a better-than-expected fourth quarter in late March, helped by the American consumer's demand for plasma TVs and DVD players. The company is also in the process of remodeling its stores.

Johnson says that April retail results also show consumers are getting smarter, using what he calls "household supply chain management."

"Similar to the way stores do it, households are beginning to use different shopping channels, such as automatic replenishment, and the same shopper that goes to a

Nordstrom

(JWN) - Get Report

or

Nieman Marcus

(NMG.A)

will -- on the same trip -- go to a

BJ's

(BJ) - Get Report

or

Costco

(COST) - Get Report

to pick up other gifts. And on the same day, they will shop on

Amazon.com

(AMZN) - Get Report

," Johnson said.

At the core of this specialization, Johnson says, is that "people want to be smart at where they shop, and nobody wants to pay retail."

For the first four months of 2004, the American consumer has shown it will shop at discount retailers such as

Wal-Mart

(WMT) - Get Report

and

Target

(TGT) - Get Report

, and high-end retailers like Nordstrom or Neiman Marcus.

"Unlike older business cycles when consumers would migrate to value retailers as inflation increased, today's consumer economy is deeply separated by wealth and wage quality," said Richard Hastings, retail analyst at Bernard Sands.

Johnson calls this a "twin peaks market," where "a bifurcated consumer

is moving in two different directions. On the discount side, there's continued strong growth, and on the luxury end, there's continued strong growth. The retailers stuck in the middle are the ones who are getting the really slow growth."

Indeed, luxury retailers have seen same-store sales growth in the high single digits to double digits since around December 2003, while the discounters' results have remained fairly steady with upper-single-digit increases. Mike Niemira, chief economist at the International Council of Shopping Centers, noted that 2004's "same-store sales pace continued to be on track for the best annual performance since 1999's booming 6.7% gain."

And analysts suggest that a future environment of higher prices and interest rates doesn't necessarily mean a tougher time for retailers.

"A big chunk of the population is now immune to ordinary consumer price inflation," said Hastings. "Those with good sources of liquidity will continue to spend without hesitation at their preferred fashion retailers, favoring continued strong growth rates at Nordstrom,

Saks Fifth Avenue

(SKS)

,

AnnTaylor

(ANN)

and

Chico's

(CHS) - Get Report

."

Johnson thinks the expected rate increase may already be baked into current stock prices, but wasn't willing to speculate on how investors will actually treat retail stocks when the rate hikes come to fruition, calling it "uncertainty on top of uncertainty."