Friday, March 28, 2008

Ignore Government Reports on Spending; Listen to JCPenney (JCP) or DSW (DSW)

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One theme I like to harp on is ignore these government reports as much as possible - the herd on Wall Street reacts as if they are accurate, but most are highly flawed. Instead listen to the companies themselves. JCPenney (JCP) is out this morning with exactly the reason I don't believe the "stocks are cheap on 2008 earnings" arguement.
  • Mid-tier department store operator JC Penney Co Inc (NYSE:JCP - News) on Friday slashed its first-quarter earnings forecast, saying sales through the Easter holiday were below expectations and noting that consumer confidence is at a multi-year low.
  • "J.C. Penney counts half of American families as its customers, and they are feeling macro-economic pressures from many areas, including higher energy costs, deteriorating employment trends and significant issues in the housing and credit markets," Myron "Mike" Ullman, chairman and chief executive officer, said in a statement.
  • The retailer now expects first-quarter earnings of approximately 50 cents per share, compared with its previous view of 75 to 80 cents per share.
  • J.C. Penney Co. said weakening consumer confidence has hurt its results as well as lower-than-expected sales through Easter.
Surely I can put any number out there for 2008 "estimate" and say stocks are cheap; but these numbers are wrong for almost everything tied to the US economy. I touched on the latest Wall Street sales job re: retailers during one of the "early cycle" boomlets last month [Feb 26: Kool Aid Bulls Twist Inflation Into Being a "Good Thing"]

This is why you are seeing rallies in the same tired groups that bet on 2nd half recovery. Would I buy retailers here? *Bleep* no. I'd be restarting short positions on individual names if I could. I'd submit retailers are where homebuilders were about a year ago - after a huge drop, hopes rise that "this is the bottom" and "it cannot get worse" and "we've seen the worse, time to get in" and we get these incessent hopeful rallies, that lead to another round of drops as reality washed over the dreamers in the coming months. People in NYC do not understand the corrosive nature of inflation on the consumer. They do not understand the real struggles that are happening *now*, not to mention in 6 months when their "recovery" thesis happens, as inflation continues to ramp. They conveniently put aside that 70% of GDP is based on consumer - the same consumer who is going to be eaten by inflation, that they are cheering.

So each time Tiffany's (TIF) reports a better than expected number (whose flagship NYC store derives a ton of sales from foreigners thanks to our cheap US peso), or Costco (COST) ramps due to people fleeing to bulk, I keep focusing on these heart and soul middle America stores like JCPenney (JCP) or Kohls (KSS) - companies that are actually good retailers but who are being overwhelmed my macro economic events. Aside from restaurants [Sep 19: Tough Times Ahead? Restaurants], I find the retailers to simply be one of the biggest targets to avoid [Nov 7: Are Department Stores Signaling a Recession in 2008] unless you're a very short term trader who buys them in their extreme dips, and flips them on the "early cycle rally" which is destined to fail within a week or two. Unlike the companies I focus on these groups have no pricing power, and no visibility - exactly the type of things we want in an investment. More and more companies are simply pulling guidance now, such as DSW (DSW) - Fast Money stole my line here last night but if women are not buying shoes you know economic issues are serious...
  • Shares of shoe retailer DSW Inc. tumbled Thursday after the company reported lower quarterly sales and earnings and issued a bleak forecast. DSW, which operates more than 200 stores and supplies footwear to hundreds of more locations, said earlier its fourth-quarter profit slid nearly 94 percent.
  • The company also declined to issue specific full-year earnings guidance, saying only its profit for the first six months of the year will be "significantly below" the 68 cents per share it earned in the comparable year-ago period.
  • The analyst is also concerned that the retailer plans to sell more "deeply valued" merchandise, potentially driving down margins at the same time it faces higher costs from vendors, due to rising material and production costs.
Both these sectors are being hit with the same issues - squeezed on the input side by inflation (although the government reports deny it's an issue), and then squeezed on the output side by the struggling consumer. This leads to compression of margins... which leads to compression of profits... which leads to compression in stock prices. Maybe a lot of this is already reflected in the stock prices [Jan 15: Will There be Anywhere Left to Shop in 2010?], but I am still of belief other than the deep discounters, bulk warehouses, and a few select teen retailers the outlook remains bleak and is not going to improve in the next few quarters, no matter what the "everything will be fine in 6 months" crowd keeps insisting. The "pooring" of the Middle Class continues in America - real wages not keeping up with real inflation, combined with loss of house ATM. $600 rebate checks is not going to change this dynamic; although the financial pundit folks in NYC still live in their ivory tower and don't realize this.

I've been debating adding this Ultrashort Consumer Services (SCC) for months on end, but since it is top weighted with the companies that should benefit most from the pooring of America (Walmart/McDonalds), I've been reluctant to pull the trigger. Since last fall I've been bemoaning the opportunity to short individual names such as Coach (COH) [Oct 9: Our Old Friend Coach] or frankly almost any restaurant stock from much higher levels when the denial pattern of any slowdown was still ripe in the air - being stuck solely with Ultrashort ETFs is a major roadblock. But with that said, with the new socialist era of financial backstopping I've been thinking maybe some of that financial short exposure should be moved to this consumer area (and I'm limited to this ETF) - after all the government won't backstop consumers - they are not integral to the economy or have major lobbyist groups like NYC banks....

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