An Odd Worry in Low-End Retail Stores

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So an unusual pattern is emerging that I think you should know about. Consumer confidence is up. In fact, it's higher now than it's been in three months. The gauge of how positive people are feeling about their own financial situation outperformed expectations in February by half a point. That's good news.

The bad news is that, for the discount retailers, it's not being seen. Wal-Mart (NYSE: WMT) and others are reporting lower than expected numbers for the beginning of February. Some are blaming it on the increased payroll tax finally taking it's toll on spending, but we didn't see that in January. It's a conundrum. Really.

Emails between Wal-Mart executives have leaked in which they express deep concern about the state of consumer spending. In one of the emails an exec points out that market share for the giant retailer is still growing, but only because everyone else is having it worse than they are. Not exactly a ringing endorsement for discount retailers, is it? It makes me wonder about how the next year might go for those companies.

Wal-Mart

The emails out of Wal-Mart HQ don't … quite … sound panicky. The company has certainly been experimental enough lately, rolling out customer mailed delivery of sample items and even testing same-day home delivery. No one can say that the firm isn't trying to find ways to sew up more market share. But discount retailers face a real problem if folks in the poorer demographics are having trouble closing the gap. Folks a bit up the ladder can, and will, go to other retailers when opportunity presents itself. Wal-Mart's stock has had a slight downward trend since it hit a high in October. It just might be that there's not a lot of extra value to be gained by sticking to Wal-Mart for the moment. Best to let this play itself out and see where the trend goes. The P/E of 14.26 indicates a flat curve for a while even though the 2.29% dividend yield is attractive.

Family Dollar (NYSE: FDO)

Another firm that looked to have good times during the hard times. But now that things are getting better (and they are) it's finding troubles. The firm's stock took it in the neck in Dec/Jan, losing more than 20% of it's value when it announced numbers significantly below analysts expectations. That's rough. But again, what's a firm to do when the people who shop there have other options or no options? It's a hard middle to occupy. Shares peaked last June at $73.26 but have dropped to 55.94 since then, a 23% drop. There's a 1.5% yield and an EPS right at 15 to keep that grim story company. Stay away.

Dollar General (NYSE: DG)

In a similar situation as Family Dollar, Dollar General has also had some confusing news. The firm has expanded madly recently, opening stores all over the United States. But that growth hasn't seen a lot of affirmation in the markets as its shares have fallen a hair over 20% since last July. The chain did lower the high end of its guidance a while back and did poorly right after, but a lot of the loss came before that announcement. There's a lot of uncertainty in my mind about Dollar General's long-term success. It's a crowded market there at the bottom, and not every firm is going to enjoy the coming economy upswing. Heck, at least the others pay some kind of dividend.

Dollar Tree (NASDAQ: DLTR)

Seriously, in college there was a store at the local mall that was simply called 'Only A Dollar!' What is it with the word 'Dollar' and these stores? Are they called 'Peso' stores in Mexico? Email me and let me know if they are. Dollar Tree shows the same 'Oh my God, stop the ride' trend that its two 'Dollar' brethren do: a high in the summer, $56.745 in June, then a long slide to lower numbers. Right around then the shares split 2:1, so good for it, but it hasn't supported the price point. Shares are down 27.5% since then. Oof. Not a happy store. P/E is just a hair above 15, and that's about where it should be. I think growth is going to be slow for Dollar Tree. Again, no dividend. Avoid.

Costco (NASDAQ: COST)

I had to give you at least one happy event. Costco is an interesting company to watch. It presents like a discount shopping experience but it pushes its exclusivity, and its customers will drive a while to shop there. Unlike rival Wal-Mart, sales in January were pretty good for Costco. Costco is also one of those firms that issues special dividends towards the end of last year. While I don't have any special knowledge, that sort of thing is usually done to avoid expected higher taxation in the new year. Still, its regular dividend sits at a yield of 1.08% so it's not much to get excited about. The stock could heat you up, though. Since May it's up 19.1%. Compare that with the other companies further up this column and you'll see why I think Costco has a real chance to come out of this a winner. Who knew having a membership card would turn out so well?

Retail is a tricky game. There's a lot of competition and little room for error. I'm not ready to say that the first four firms I mentioned up there have made any errors. Far from it. But it may be a matter of people shifting away from them as they become either more or less confident. If consumer confidence is truly stronger, the better off may find themselves shopping a little more upscale. That's going to send some contrary numbers to the big discounters. Don't be caught by it.

Good luck!

Follow Nate on Twitter: @natewooley

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Nate Wooley has no position in any stocks mentioned. The Motley Fool recommends Costco Wholesale. The Motley Fool owns shares of Costco Wholesale. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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