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Find Bargains With Discount Retailers

Posted: Jun 12, 2008 09:22 AM by James Brumley

Tickers in this Article: WMT, PSMT, DLTR, FDO, SKS, DDS, COST

They'll probably never have their own bubble to pop, and you sure won't find them on very many "hot stock pick" lists; however, wedged somewhere between "underestimated" and "on the move" you'll currently find retail stocks - general merchandise retailers, to be specific.

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Just for perspective, the Dow Jones U.S. Broadline Retailers Index (DJUSRB) is up 16% over the last three months. Not bad. However, considering the S&P 500 is up 6% for the same time frame, it might pay to be at least a little more than passively curious. The attraction is two-fold - by necessity. If you were looking just for momentum or looking just for great fundamentals, you probably wouldn't be able to make a totally compelling case for Wal-Mart (NYSE:WMT) or its industry brethren. It's the combination of the two stock performance and valuations that led me back to these names.

Moreover, with the economy still on shaky footing, coupled with Ben Bernanke's mixed messages (and potential rate hikes), the department stores that can provide low-cost values may well continue to capitalize. Let's look at a few of them up close.

Value Really Means Value
Not all department stores are the same. There's brand-oriented, and price-oriented. For instance, not that they're exclusive to the point of being ‘by invitation only', even moderately-higher-end retailers like Saks (NYSE:SKS) and Dillard's (NYSE:DDS) have seen their stocks get punished for close to a year now. So, when I say department stores that deliver true value are the ones to watch, I mean it literally.

The obvious name jumps to the forefront, Wal-Mart. Though I like the company, as an investment, WMT shares look a little inflated just under $60. Instead, I found a few off-the-beaten path stocks that look like there's more upside ahead of them than behind them.

Take Costco (Nasdaq:COST) for instance. Costco saw its May same-store-sales top line increase by 7.0%, topping Wal-Mart's increase of only 3.9%. Yet, Costco's chart doesn't look nearly as intimidating as Wal-Mart's.

If your investing style is like most consumer's current shopping style - bargain hunting - you may be more interested in something like Family Dollar Stores (NYSE:FDO) or Dollar Tree (Nasdaq:DLTR). Family Dollar's trailing price-to-earnings ratio of 14 is among the industry's best. So is Dollar Tree's multiple of 17. (For more on the P/E ratio, check out Is the P/E Ratio a Good Market-Timing Indicator?)

That being said, while Costco is getting results, and Family Dollar and Dollar Tree look relatively cheap, it's not as if they're all perfect. Costco is still a little expensive, and Family Dollar still has a nagging issue with earnings growth. Neither problem is insurmountable, but there may be even better alternatives.

Sleeper Pick
One of the impressive sleepers I see in the group is the lesser-known PriceSmart (Nasdaq:PSMT). This company's growth has been out of sight and out of mind for most of the market, partially due to the company's small size. But, I contend this stock hasn't gotten much attention mostly because the trailing-twelve month valuation numbers don't look all that great. The thing is, they don't tell the whole, or recent, story.

A little homework on the stock reveals a lengthening string of huge sales increases, dating back to the middle of last year. In eight of the last twelve months, PriceSmart's revenue increased by more than 20% (month over month). Some of that was attributable to the addition of stores; most of it was organic.

But what about the bottom line? It really didn't start getting good until the last couple of quarters. PriceSmart's Q2 (ended on February 29) net income was $9.29 million, which was 45% better on a quarter-over-quarter basis. And, as of right now, PriceSmart is on pace to its best year ever.

Stimulating Conversation
There is one final item to consider with the value retailers being the beneficiaries of a troubled economy: the stimulus checks on their way to consumer's mailboxes.

Certainly a large chunk of that money is likely to be used to pay bills rather than on goods or services. However, there are estimates from Retail Forward that even if only 40% of those rebates are spent rather than being used to service debt, that's still a $40 billion injection into the economy.That could be a nice little bump this summer for the retailers who really know how to give consumers more bang for their rebate bucks.

For more on consumer spending and its effect on the markets, see Consumer Confidence: A Killer Statistic.

By James Brumley

James Brumley is a freelance writer and registered investment advisor. He began his career as a broker with a major Wall Street firm, where fundamentals and long-term holding periods were core strategies. After that, he switched gears completely, becoming an analyst at a short-term trading newsletter that focused on technical analysis. He now manages client money using the best of both philosophies. His company, Bluegrass Portfolio Management, offers investors an opportunity to reap superior returns with minimized risk.

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