Three Retailers to Short

By Josh Lipton  OCT 29, 2009 11:00 AM

Another disappointing holiday season approaches. Can these stocks survive it?

 


How is the consumer feeling?

Not so great, it turns out.

We learned this week that the Consumer Confidence Index (CCI) slipped to 47.7 this month from 53.4 last month. Consumers’ perceptions of current conditions and their expectations for the future also fell.

Other reports on consumer mood appeared similarly disheartening: The ABC News/Washington Post Consumer Comfort Index (WCCI) dropped another point during the week ending October 24, bringing its total drop the past three weeks to six points.

This cements the index’s decline into the lower end of its range for the year, economists note. (The index is based on three core questions, asking respondents to rate the condition of the national economy, the state of their personal finances, and whether or not now is a good time to buy things.)

Joe Consumer is feeling uncertain, and it’s hard to blame him as he struggles with a lousy labor market, elevated debt levels, and depressed home prices, to name but a few of the challenges.

Just in case they weren’t worried enough, here are a few more concerns consumers can now fret about: the cost of what they’re eating keeps shooting up with tea, cocoa, sugar, and coffee prices hitting multi-year highs.

Prices at the pump are also jumping, with gas prices moving closer back to $3 per gallon.

What does this all add up to and what are the investment implications?

David Rosenberg of Gluskin Sheff puts it this way: “All of this leaves less cash left for discretionary holiday spending, which we think again will be a disappointment this year and leave the retailing stocks ripe for the picking for the 'shorting' investor population.”

It’s certainly true that the retailers have enjoyed a nice run. Indeed, the SPDR S&P Retail ETF (XRT), with holdings including Expedia (EXPE), Guess (GES), Nordstrom (JWN), Tiffany (TIF), and Whole Foods (WFMI), is up 30% in the past six months.

As for which retailers to short, we asked one of our professors with expertise in this space for some ideas.

In general, this pro argues that retailers have been really overbought, and she thinks valuations across the board are too high.

“I personally probably wouldn't even buy the most operationally and financially robust retailers right now given the price,” she says, adding, “I think sales for the holidays have been overestimated, and I think we'll see a lot of retail stocks sink.” Which ones would this professor consider shorting?

Abercrombie
(ANF) is a short, she says, because the company has lost its brand appeal. Its overpriced merchandise can't compete with rivals that offer essentially the same product, like American Eagle (AEO) and Aeropostale (ARO), she argues.

“One look at the company's margin erosion after the last several quarters tells the whole story,” she says.

Next up: Talbots (TLB).

“Its balance sheet is just bogged down by debt and, in recent years, it has missed huge fashion trends completely, tarnishing the brand,” our pro says. “The CEO is making a lot of changes that could revive the company, but the market has simply priced in way too much optimism -- the stock is up nearly 300% this year so far.”

Finally, investors can consider shorting Sears (SHLD).

“Everyone thinks this is a value play,” our guru notes. “They thought it at $100 and they thought it when it nearly hit $200 over the last few years. The 'real estate' story everyone gives to this company is ridiculous. Sears is a retailer -- and a really, really, crappy one.”

The professor concludes, “The stock has risen over 80% this year and sells at 10x EV/EBITDA -- not exactly a value price for a company that couldn't even generate positive sales before the recession.”

It’s important to understand that not every pro thinks shorting the retailers here is a smart, money-making play, however.

We caught up briefly with Jeff Macke, for instance, who thinks Rosenberg is dead wrong to suggest this strategy.

Speaking of the retailers, Macke told us: “Companies like Walmart (WMT), Target (TGT), and Gap (GPS) are executing too well. I don’t want to short them. There are better places to take that bet, and there are plenty of ways to take a shot at the consumer.”

The trader said he would prefer to short other sectors right now, chiefly gunning for casinos, cruise lines, and media companies.

“The New York Times (NYT) is going out of business,” Macke says. “That is a better short.”

It’s equally critical to remember that shorting a stock sounds cool, and certainly makes you look sophisticated at the local bar. Parrot back some of the chatter you’ve overheard recently from Jim Chanos, and it’s a good bet that 90% of the folks within earshot will be left dazed and confused.

But, say the professionals, remember that it’s a tough way to make money.

“They have made it incredibly difficult,” Macke says. “And everyone is on these bets.”



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