2008 has been a trying year for the U.S. economy. The S&P 500 is currently down 41.2% year-over-year and as of December 23, only 17 stocks, or 3% of the S&P 500, is generating positive returns year-over-year (source: CNBC). Finding positive earners in the current economic situation has been very difficult indeed. However, there has been excellent price appreciation over the past few months in the discount stores industry.
The question for investors now, is does this industry have room for further price appreciation, or is it overbought and due for a decrease?
I believe that the answer relies upon whether or not the economy begins to show any improvement over the next year. The most important economic indicators to look at in this sector, in my opinion, are the unemployment rate and consumer spending. If there is any sign of improvement in either of these indicators, I would seriously consider selling my positions in discount retail stocks. However, if the economy continues to worsen and falls deeper into a recession or goes into a depression, then I would continue to accumulate shares in this industry.
In my opinion, the economy is going to worsen for at least the next six months, so I feel that taking a look at companies in the discount stores industry, if even for only for a short-term investment, is worthwhile. Here are a few companies that I have been examining recently:
Family Dollar Stores Inc. (NYSE: FDO): As of December 23, FDO had the highest return of a stock in the S&P 500, providing a 27.2% return year-over-year. Has this stock peaked, or can it increase further? FDO closed at $24.46 yesterday, but it has traded as high as $32.50 over the past year. Family Dollar stores attract many middle income shoppers in addition to low income shoppers, and it does not sell only super cheap items, as their stores typically sell items ranging from $1 to $10. While FDO has not had great bottom line growth over the past 5 years, as net income has actually declined year-over-year 3 times, they have exhibited solid top line growth and excellent free cash flow. I feel that FDO’s stock price can increase further from its current level.
Dollar Tree Inc. (NasdaqGS: DLTR): This stock has had a fantastic run, offering a 55.76% return during the past year. The Company is currently trading near their historic high, so the question is has it peaked? Dollar Tree has had excellent top and bottom line growth over the past few years, and has augmented that growth with excellent free cash flow. The Company has raised its full-year EPS estimates by about 10 to 12 cents. This is a company that has been on the rise for a while now, and the poor economy seems to be helping them further.
Big Lots Inc. (NYSE: BIG): Big Lots is a discount retailer whose stock price has not been helped by the economy. Currently trading near their 52-week low, the Company has seen comparable store sales fall by about 2 to 4 percent. However, the Company has stated that they have lowered their inventory in their stores by about 3 percent due to record productivity in their distribution centers. This is also a company that has shown increasing top and bottom line growth over the past few years, along with excellent free cash flow. This stock was trading at a high of $35.33 this past year, and it is currently trading at $14.22. While full-year guidance has been lowered, the Company still is projecting about a 32 to 41 cent increase in EPS from continuing operations. Also, Big Lots’ P/E multiple is less than half that of FDO and DLTR, possibly another indicator that the stock is undervalued. This stock appears to be poised for a rebound, in my opinion.
There really is not too much to read from the last month’s candle chart on BIG. The biggest indicator that I can find is that in early December, the day with the most volume lead to the stock’s biggest upward price move of the month, thus possibly showing that the bulls have more momentum then the bears.
99 Cents Only Stores Inc. (NYSE: NDN): This growing small-cap discount retailer has seen its stock price rise 38.52% over the past year. However, upon analysis of the Company’s financial statements, I feel that the increase is unwarranted and that the Company is experiencing price appreciation based on the worsening economy. The Company has had decreasing net income over the past few years, falling from $11.4 million in FY 2006 compared to $2.9 million in FY 2008, and negative free cash flow for the past two and a half years. In the Company’s latest quarter, their EPS declined year-over-year from $(0.07) in 2QFY08 to $(0.13) in 2QFY09. I feel that the Company is currently overvalued and is due for a price depreciation.
The discount stores industry has gone against the trend of the market and has had a great run over the past few months. Whether or not this trend continues will depend on what direction the economy heads in over the next few months.
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