Restaurant stocks are underperforming the U.S. market, a signal that shares of retail companies also may be poised to lag behind.
Income growth, one of the primary drivers of discretionary spending, remains lackluster, as does the labor market, said Tom Porcelli, chief U.S. economist at RBC Capital Markets Corp. in New York. Even with unemployment falling below 9 percent in November for the first time since March, consumers still “lack the ammunition to drive spending at this point,” he said.
Real disposable personal income, or the money left over after taxes and adjusted for inflation, is down 0.4 percent since December 2010, according to data from the Bureau of Economic Analysis. Meanwhile, the Bloomberg Consumer Comfort Index has rebounded only about 4 points to minus 49.9 in the week ended Dec. 11, from the record low reached during the midst of the 18-month recession.
With both income growth and confidence weak, restaurants are a “canary in the coal mine,” because dining out is “one of the first things households cut during tough times,” said David Rosenberg, chief economist and strategist at Gluskin Sheff & Associates Inc. in Toronto.
Darden Restaurants Inc. (DRI), operator of more than 1,900 eateries, reduced its annual sales-growth forecast Dec. 6, causing the shares to tumble 12 percent that day to $41.82, the biggest drop since August 2008. Same-restaurant sales at its Olive Garden chain fell 5.7 percent in November, the seventh consecutive month of declines, the Orlando, Florida-based company said Dec. 16 when it reported second-quarter earnings.
Flat-Screen Discounts
One retailer that’s already feeling the effect of value- conscious consumers is Best Buy Co. (BBY), the largest U.S. electronics chain. Net income fell 29 percent to $154 million in the quarter ended Nov. 26, the Richfield, Minnesota-based company said Dec. 13, after it increased promotions, including discounts on flat-panel televisions, to spur sales the day after Thanksgiving. Its shares fell 15 percent on the income news — the most since August 2002 — to $23.73.
“Signs of consumer retrenchment are showing up first in casual dining and may be spreading to other discretionary categories like retail” — a cautionary signal to investors overweight in this category, said Mark Luschini, chief investment strategist at Philadelphia-based Janney Montgomery Scott LLC. He is “underweight” consumer-discretionary stocks.
The Bloomberg U.S. Full Service Restaurant Index — which includes casual-dining chains such as Darden and Brinker International Inc. (EAT) — has dropped 17 percent since July 13, while the Standard & Poor’s 500 Index has fallen 9 percent. Meanwhile, the S&P Retail Select Industry Index — including Best Buy and Macy’s Inc. (M) — is down 7 percent.
‘Relatively Expensive’
Consumer-discretionary stocks are “relatively expensive” compared with the market, which has attracted investors who believe the U.S. economy won’t fall into another recession, said Michael Darda, chief market strategist in Stamford, Connecticut, at MKM Partners LP. The sector, including retailers, is trading at a premium of about 48 percent on a price-to-sales ratio compared with the S&P 500, above its 18-year average, he said.
That may not last as the retail index tends to peak on a relative basis in roughly six-month cycles, according to Jim Stellakis, the founder and director of technical research at New York-based Technical Alpha. The recent rise has stalled, and the sector “appears set up for a pullback,” he said.
The “weak showing” by Darden’s Olive Garden may reflect a broader slowdown at full-service restaurants in early to mid- November, said Mark Kalinowski, a New York-based analyst at Janney Montgomery Scott, who maintains a “neutral” recommendation on the company. This “may not be the only meaningful shoe to drop in casual dining over the next one-to- three months,” he wrote in a Dec. 6 report.
Lure Shoppers
Best Buy wasn’t alone in trying to lure holiday shoppers on Black Friday with steep discounts, said Dan Binder, an analyst at Jefferies & Co. in New York. Costco Wholesale Corp. (COST), Target Corp. (TGT) and Wal-Mart Stores Inc. (WMT) also increased promotions in what they said is a “proactive step to maintain sales momentum,” though at the risk of reducing gross margins, said Binder, who has “hold” recommendations on these companies. Best Buy’s gross profit fell 1.7 percent to $2.93 billion in its third quarter from $2.98 billion a year earlier.
Even though retail sales rose 6.6 percent on Black Friday to a record $11.4 billion, total sales for the month –including dining services — grew only 0.2 percent, based on data from ShopperTrak, a Chicago-based research company, and the Census Bureau. The November pace was the slowest in five months and less than a forecast of 0.6 percent in a Bloomberg News survey.
Slower Sales
“The strong Black Friday weekend wasn’t enough to offset slower sales in the rest of the month and is a signal that consumers are curbing their spending,” Rosenberg said.
There are other “fundamental” headwinds to spending, including a declining saving rate, Darda said. Americans saved 3.5 percent of their disposable personal income in October, after an almost four-year low of 3.3 percent in September, based on Bureau of Economic Analysis data.
The prospect of tighter bank credit also suggests a slowdown in retail-sales growth by March 2012, Binder said. The net percentage of banks reporting increased willingness to make consumer-installment loans dropped to 18.8 percent in October after reaching a 17-year high of 28.8 percent in April, according to a Federal Reserve senior loan-officer survey released last month.
Less access to bank credit, along with the lower saving rate, is likely to catch up with consumers, Binder said. “Current growth rates aren’t sustainable unless job, wages or credit start to improve,” he said.
Falling Unemployment
Falling unemployment — November’s 8.6 percent rate was the lowest since March 2009 — may be a step in that direction. The number of applications for jobless benefits dropped by 19,000 to 366,000 in the week ended Dec. 10, the lowest in three years, and payrolls climbed 120,000 last month, up from 100,000 in October, Labor Department figures showed.
Still, continued expectations of “a moderate pace of economic growth over coming quarters,” indicates the jobless rate will “decline only gradually,” Federal Reserve policy makers said at their Dec. 13 meeting.
In the absence of a “very strong” and sustained acceleration in the labor market, there may be a “pullback in consumer spending” during the next few months, said Darda, who has a “cautious” sector view.
This is likely to show up in the retail sector soon, as it already has in restaurant stocks, according to Luschini.
“Investors are discounting a stronger rebound in retail stocks than the expansion has produced to date,” he said.
By Anna-Louise Jackson and Anthony Feld
Courtesy of Bloomberg News
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