Diversification is a subject that gets a great deal of attention both at Investopedia.com and elsewhere on the web. And with good reason. Traditional financial planning frowns upon putting all eggs in one basket on the belief that the investor would be exposing his or her portfolio to excessive risk. While that may be true, it's a subject for another article. Today's goal is to determine whether or not it makes sense to invest in retail right now. I believe the retail sector is offering an ideal entry point. Keep reading to find out why.
IN PICTURES: 20 Tools For Building Up Your Portfolio
Always Dark Before Dawn
Within the last year, several retailers filed for bankruptcy, including Linens 'n Things, Sharper Image and Circuit City. All three companies are gone and probably already forgotten, so it doesn't take a genius to know that the retail sector is in trouble. Doom and gloom aside, mall traffic appears to be improving and buyers seem to be coming out of the woodwork as spring approaches. Analyst Adrienne Tennant of Friedman Billings Ramsey & Co. noted in a recent communication to clients, "We remain optimistic that if the weather continues to break to spring-like temperatures, sales trends may pick up. We believe March is exceeding initial expectations." There you have it folks. Americans still need clothes to wear. When we all start walking around naked, then I'll believe retail's done. Until that time, people are going to shop, albeit at a slower pace. Just look at Buckle (NYSE:BKE); do you think they're complaining about a lack of customers? Of course not.
Performance of Top Five Holdings – Retail HOLDRS Trust
|
Company
|
Weighting
|
52-Week
Change
|
|
Wal-Mart (NYSE:WMT)
|
25.14%
|
-3%
|
|
Home Depot (NYSE:HD)
|
12.59%
|
-15%
|
|
Target (NYSE:TGT)
|
7.38%
|
-32%
|
|
Amazon.com (Nasdaq:AMZN)
|
6.97%
|
3%
|
|
Lowe's (NYSE:LOW)
|
6.87%
|
-22%
|
|
Retail Holders Trust (NYSE:RTH)
|
100%
|
-18%
|
|
S&P 500
|
N/A
|
-39%
|
Historical Record
In 2001, Merrill Lynch created the Retail HOLDRS Trust (NYSE:RTH), an exchange-traded fund (ETF) that provides investors with one security invested in 18 different retail companies, all household names. The top five holdings currently account for 59% of the ETF's total value. In the past year, the ETF dropped about 18.5%, less than half the 38.9% decline of the S&P 500. Stock prices of the top holdings fluctuated anywhere from a positive 3.4% for Amazon to 32% for Target. ( If you're an investor who likes to understand how and why your investment products work, this article is for you: An Inside Look At ETF Construction.)
Over five years, the ETF as a whole performed better than both Lowe's and Home Depot; it performed in line with Target, and worse than Wal-Mart and Amazon.com. Most importantly, it lost about 16% over the last 60 months, compared to 27% for the S&P 500. Therefore, a little diversification is good (Retail HOLDRS ETF), while a lot of diversification (S&P 500) is another story entirely.
Individual Stock Picks
Those looking for simplicity should stick to the ETF. It's an inexpensive way to invest in an ever-changing industry. Long-term, the next five years will be just like the last five, outperforming the index. It won't always be pretty, but after 2009, retail should really start to pick up. Year-to-date, retail stocks are up 7% in comparison to negative 6% for the entire consumer discretionary sector and negative 7% for the S&P 500. As for the 18 stocks in the ETF, Amazon.com is the best performer, increasing 51% year-to-date. The worst performer is Wal-Mart, down 6.28% so far this year. Buckle, on the other hand, is up 46.33% in 2009 due in part to its double-digit sales growth. If you prefer to buy individual stocks, Buckle, Amazon, CVS Caremark (NYSE:CVS), Wal-Mart and Safeway (NYSE:SWY) would be the best picks (in that order).
Bottom Line
If what they say is true about the markets being six months ahead of the economy, retail stocks could be telling us that a slow rebound is afoot. I've always felt a retail stock or two should be in any portfolio. With momentum on your side, now's the time to make an addition. (Learn more in Analyzing Retail Stocks.)
