August 25, 2014 - Shopping for Bargains in the Retail Sector
The economy is stuck in a slow growth mode, but the stock market has been doing well. Companies are busying making money, and they are buying back stock while enjoying the benefits of cheap money. The Federal Reserve is watching employment data, interest rates and inflation very carefully waiting for signs of a solid turnaround. Thus far the recovery would best be describe as low; but this also keeps cheap money going into businesses. Companies used a lot of that money to buy back shares which has raised stock prices. One might argue we remain in a sweet spot where businesses enjoy profits and cheap money but we don't have enough growth to cause inflation or interest rate worries to end the situation.
With employment soft, retail sales have also been soft. If people don't have jobs and money to spend, it becomes harder to go and buy new things. Not all retailers suffer the same under circumstances like this, some do better than others.
When times get tough, some retailers close underperforming stores, cut inventories and staffing, and wait out the bad times. They know that the situation will turn around. Many retailers are used to doing this, running a break-even business through much of the year, but finally pulling into the black with after-Thanksgiving “Black Friday” sales and a healthy Christmas season.
Some retailers have done better in tough times, benefiting as customers trade down and shop for bargains. Wal-mart, Dollar Tree, and TJX Companies are good examples of stores that have performed well when consumers were hunting for bargains.
TJX Cos. is the nation's largest off-price family apparel and home-fashion retailer. It has about 3,000 stores under various names, including TJ MAX, Marshall’s and Home Goods. In FY2014 the company had revenues of $27 billion up from $20 billion in 2010. Earnings per share grew from $1.42 to $2.94 per share over this time. Analysts expect sales to continue growing at 5% to 7% a year for the next several years. The company plans to repurchase about $1.6 billion of its own shares, which, for a company with a market capitalization of $41 billion could lift the stock price about 4%.
TJX plans to double the number of stores it has in the US and also plans to expand in European market. The company’s style of waiting until other retailers have shopped and then buying merchandise late in the cycle gives it a pricing advantage. Regular customers learn to return often as new products can show up in stores at any time.
Chart courtesy of stockcharts.com
The stock has risen from $20 to $60 over the last five years, but has seen the price stuck in a range between $51 and $64 for the last year. Given solid fundamentals, this is the type of company one wants to have as part of their stock portfolio.
Take a look at the January 2015 $57.50 covered call on TJX. With the stock trading at $59.40 the January $57.50 call could be sold for $3.80 giving us a net debit of $55.60 for a new position. This means the covered call has a 3.8% assigned return rate over the next 150 days. Annualized (for comparison purposes only) this a 9.2% return. The company has a dividend yield of 1.2% which can also add to the returns. Shareholders of the stock could get two $0.175 dividends near September 20 and December 3.