Is Now a Good Time to Invest in Retail Stocks?

Retail stocks have taken a beating in recent years. In 2017, investors were scared away by the “retail apocalypse” that saw 8,000 brick-and-mortar stores close. However as 2019 draws to a close, investors are weary of the trade war with China and are looking for any sector that can create some growth. With the holidays approaching, the retail sector is starting to heat up. But are retail stocks a viable option? They could be if you look at the right companies.

Retail stocks are comparatively inexpensive

Because the retail sector has fallen so far in the last few years, retail stocks are cheap with many trading at single-digit or low double-digit P/E ratios. However, retail stocks also are known to pay reliable dividends, and a number are even Dividend Aristocrats, having increased their payouts every year for more than 25 years. This gives investors access to both income and growth.

Omnichannel is the new retail

Amazon has fundamentally changed consumers' shopping habits. Many retailers were too slow to pivot away from a model where consumers had to come to a physical store to buy merchandise. An omnichannel is a business where the digital and in-store operations function as one sales channel. Not surprisingly, many of the companies that are adapting, and in some cases thriving, in this new environment, have developed a successful online presence as well as enhancing the in-store experience for consumers. Target and Wal-Mart are examples of companies that now offer consumers the ability to buy items online and pick them up at the store or even have the items delivered to their homes.

Look for companies that provide value beyond price

In order to persuade consumers to leave their homes, retailers have to be able to provide a value that goes beyond having the lowest price. Retailers, such as Home Depot, are successful because they are in a part of the retail sector that is not as easy for Amazon or other “e-tailers” to replicate. After all, when you’re undertaking a home improvement project, you may want personal assistance that you just can’t get from a web site. Best Buy promotes their Geek Squad to bring traffic in for consumers who need technical support for their electronics.

Even a beleaguered company like J.C. Penney is finding some success with store-in-store concepts. This is also something that Target will be doing with its partnership with Disney.

Retail investing is not for every investor

One of the appealing things about retail investing is that, for many investors, it fits the criteria of “buying what you know”. They invest in particular stocks because they shop there. But this can be a risky strategy if they don’t perform due diligence. Many investors put on blinders when they examine a stock and may, sometimes subconsciously, introduce bias into their analysis. In other words, they see what they want to see, which can lead to overlooking numbers that don’t support future growth.

Another related point is that investing in retail stocks requires investors to put in the work to research individual stocks. This research should include (but should not be limited to) the fundamentals such as same-store sales, revenue growth, and net operating income. You should also be familiar with what analysts are saying about the company’s valuation using ratios such as P/E, PEG, and P/S). Investors should also pay attention to the latest news about the company including news about earnings reports and/or product launches. And if that weren’t enough, investors need to keep an eye on the competition. If this sounds like a lot of work, then maybe investing is not right for you.

Finally, retail investing is not for the faint of heart. Retail stocks frequently move in extremes to the market. When the economy, and the market, are going well retail stocks may significantly outperform the market. But when the economy starts to lag, retail stocks can significantly underperform the market. When the average investor tries to “time the market” their portfolio usually underperforms the market by approximately 7%. This is because they buy and sell as the wrong times. The lesson is this, even if you buy the right retail stocks, you have to be committed to them. This means having realistic growth expectations and being willing to hold onto the stocks when the going gets rough.

A safer way to invest in retail stocks

If you want to invest in retail, but don’t have the time, or inclination, to invest in individual stocks, there are a number of quality index funds that target the retail sector. Because index funds own the entire market, they are much less prone to the ups and downs that can occur with individual stocks. Two of the best performing index funds that focus on the retail sector are the ProShares Online Retail ETF and the Invesco Dynamic Retail ETF.