Retail Stock Pullback May Be a Holiday Buying Opportunity

The SPDR S&P Retail ETF is down 3.2% over the past month. (David Paul Morris/Bloomberg)

Key Points

• The S&P 500 has gained 15% year to date, outperforming the SPDR S&P Retail ETF’s 6.5% increase.
• The retail ETF is down 3.2% over the past month, while the S&P 500 has gained 4.2% in the same period.
• Holiday sales forecasts predict growth between 2.9% and 4% for the end of the year, indicating continued consumer spending.

For a brief six-month period, retail stocks were all the rage, charging ahead on signs American consumers were happy to keep shopping despite macroeconomic upheaval. That momentum has since sharply reversed, reflecting Wall Street’s growing uncertainty about the consumer environment.

Year to date, the benchmark S&P 500 has outstripped the SPDR S&P Retail ETF , gaining 15% to the XRT’s 6.5% increase. Six months ago, however, the retail sector had picked up steam, running up 36% in the half-year period—outperforming the S&P 500’s 35% increase.

There were several factors boosting discretionary stocks, including the prospect of lower interest rates, better-than-feared second-quarter earnings reports, and the market’s gradual acceptance of a higher-tariff environment.

But the rally has fizzled out as concerns over the economy grow. Over the past month, the retail ETF is down 3.2%, while the S&P 500 has gained 4.2%.

The threat of a pullback in consumer spending may be spooking investors, writes Dennis DeBusschere, president and chief market strategist at 22V Research.

So far, spending has been resilient, which has partially fueled the retail ETF’s growth over the past six months. The growth in spending is particularly impressive given the labor market has been gradually cooling down, with the unemployment rate rising to 4.3% in August according to the latest available official data.

The strength of the labor market has been one of the main forces undergirding consumer spending for the better part of the past five years, along with gains in productivity, income, and household wealth. Although the employment picture is getting hazy, productivity gains continue to fuel real income growth, DeBusschere wrote.

“As a result, the slowdown in employment growth is not likely to trigger the typical self-reinforcing downswing of spending, employment, and confidence associated with a stalling labor backdrop,” he added.

That said, the risk that spending slows gets bigger as the unemployment rate rises, DeBusschere acknowledged, which may be making investors wary about consumer stocks.

“Most investors seem ready to pounce on favorite longs and shorts ‘when I see for myself the tape has finally settled down,’ but there is close to 0 appetite to catch a falling knife by most funds,” wrote Carey Kaufman, U.S. consumer strategist at Jefferies.

Indeed, many portfolio managers seem more interested in preserving capital rather than taking on risky bets, Kaufman added.

The caution may be warranted given the current dearth of official data that could give investors a better idea of the current state of the consumer. The federal government’s shutdown has delayed the release of the jobs report for September, and will likely push back the consumer price index release and the retail sales report, both due next week.

DeBusschere believes there will be an opportunity to buy into retail and discretionary names, but needs more data releases before making that call.

“The Discretionary sector has low earnings expectations, and corporate sentiment is weak. That is the bad news,” he wrote. “The good news, the bar is low for earnings season, and if the macro data remains firm, that could create a buying opportunity in the group.”

And indeed, the lead-up to the holiday season is often a good time to buy into retail stocks. Over the past 10 years, the retail ETF has gained 5.6% between Nov. 1 and Dec. 31, a higher gain than the benchmark index’s 3.6% gain, according to Dow Jones Market Data.

Holiday sales forecasts suggest Americans still have appetite to spend, at least through the end of the year. Consulting firm Deloitte is forecasting growth to range from 2.9% to 3.4%. ICSC, a commercial real estate and retail trade group, predicts retail sales could grow between 3.5% to 4% year over year between October and December.

“Despite economic concerns, our survey shows that consumers are committed to their holiday traditions and plan to shop,” said Tom McGee, CEO of ICSC, on Tuesday. “Our forecast reflects that resilience.”

Write to Sabrina Escobar at sabrina.escobar@barrons.com