My wife is an inveterate and skilled bargain hunter, but she is no cheapskate. Her shopping mission, I have learned, is to save as much money as possible on those things that really don't matter that much to our quality of life so that we'll have more money for those things that do matter. She may be buying razor blades and paper towels at Costco, but she's definitely not collecting recipes that call for Spam as the main ingredient. Not long after our Thanksgiving weekend wedding six years ago, she pointed out to me that I really did not need to shop for Christmas stocking stuffers at Joseph (a high-end retailer of women's fashions and accessories here in Memphis). She recommended Dollar Tree (DLTR) as a more responsible and reasonable source for the treats that Santa doesn't gift wrap. Since then, the stockings that are hung by our chimney with care are no longer overflowing with Creed fragrances and Erno Laszlo skin emollients, but this much is certain: no one in our family will ever, ever run out of dental floss.
I wish that Santa had stuffed my stocking last Christmas with shares of Dollar Tree stock.On the last trading day before Christmas 2010, DLTR closed at $56.77. Today it is trading around $82, up some 44% in just less than a year. Two other companies in the discount space, TJX (TJX, owner of Marshalls and T.J. Maxx) and Ross Stores (ROST), have similar gains over that same time frame, up about 42% and 45%, respectively. That is stellar performance in a market where the S&P 500 index has been essentially flat over the last year. These discount retailers have also beaten handily other retailers in the performance sweepstakes: WalMart (WMT) is up about 10%, Macy's (M) up 29%, and Target (TGT) is down about 11% since last Christmas. The discount stores have clearly been the place to be for investors (and obviously for shoppers), but will they continue to be the place to be in the future?
Here we'll step back and look at a couple of investing basics. First, the greatest company in the world is not necessarily going to be the greatest stock in the world unless the price is right. Successful investing is all about finding stocks where future growth opportunities are not fully reflected in the current stock price. There may be mobs of people digging through the bargain bins at Dollar Tree, but that doesn't necessarily mean that the stock is a bargain. We have to make some determination of value. Second, investing is all about what is going to happen in the future, not what occurred in the past. Stock prices are determined by discounting future earnings, and if a stock is "priced to perfection," the company had better deliver on those expectations.When we assess the discount stores as potential investments, we have to understand what started the party in their stocks and whether the party can continue.
We don't have to be economic geniuses to understand why the discount stores have done so well. The U.S. has suffered through the worst recession since the Great Depression, and the recovery does not seem to be able to gain serious traction. It is no surprise, then, that consumers have changed their shopping behavior in an effort to save a few bucks. Economists like to cite a theory known as the "wealth effect" to explain how consumers spend their money. The idea here is that even if my income stays the same, a major increase in the value of my stock portfolio may lead me to spend more, even if I do not directly use my investment gains to fund those expenditures. Recognizing that I am worth more, at least on paper, I am more comfortable charging a nice vacation on my credit card, eating out more often, grilling more steaks instead of hamburgers, buying another suit, etc. I prefer to call this phenomenon the "balance sheet effect," because the changes in spending behavior are not really the result of our being in the grip of some mysterious, unconscious forces beyond our control. That spending behavior is more the result of a conscious financial calculation based on a complete picture of our resources, not just our disposable income. This balance sheet effect drove overall spending higher when asset values were increasing, but was thrown into reverse with the collapse in stock prices and house values. For most people, their home is their most significant balance sheet asset, and the housing market remains in the doldrums.
Would a truly robust economic recovery, involving a stronger housing market and rising stock prices, lead consumers to abandon the discount stores and return to more profligate spending behavior? I don't think so. In an article in the most recent issue of Vanity Fair (Lady Gaga is on the cover, so you can't miss it), the economist Joseph Stiglitz points out that our economy had some serious problems long before Lehman and mortgage-backed securities made the headlines. Wages, for example, have been stagnant for years, but people kept spending by using their homes as ATM machines. It is amazing how much extravagance you can buy, at least temporarily, with borrowed money (my mother, as a nice Southern Lady, liked to call this "keeping up appearances," and appearance was about as deep as it went). Now the ATM machine has been taken away, leaving lots of people with a debt hangover. That debt needs to be paid off (a process known as "de-leveraging"), and that's going to be a drag on the economy that may leave us vulnerable to the much-feared "double dip" recession. I will point out that the latest economic numbers have been encouraging, and so the dreaded double dip does not appear to be in the cards, at least for now. However, the underlying structural problems in the economy will likely be with us for some time.
I think the discount stores like DLTR, ROST, and TJX have a bright future, but that future is pretty much reflected in the current stock prices. Of the three, I would be inclined to buy some TJX on any pullback that was not related specifically to the company (such as when the overall market declines again by about 500 points, taking the really good stocks down with the average ones). The company's strength seems to be in the relationships it has developed with its vendors and its ability to get designer-label merchandise into its stores quickly, keeping up with prevailing fashion trends. The dividend yield is 1.2%, with dividends at only about 20% of earnings. They also have a nice, long history of annual dividend increases. TJX is definitely worth a closer look. Furthermore, my sense is that TJX and other discount stores will keep--and gain--customers like my wife, who shop there not because they have to, but because they choose to. Saving money, like spending it, has its own addictive properties.
About a month ago, my wife and I went out for some early Christmas shopping and a tour of the discount stores (there is nothing like Summer Avenue in Memphis on a crisp, fall Saturday afternoon). My experience at T.J. Maxx confirmed my investment thesis. The store was busy, clean, and full of attractive merchandise and friendly employees. It was definitely my favorite of the discounters, in terms of both atmosphere and product selection. Maybe Santa will leave me something from that store in my stocking.
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I won't let today pass without noting that this is the 70th anniversary of Pearl Harbor. December 7th, 1941, was also my late father's 23rd birthday, so growing up I heard lots of stories of the "What were you doing when you heard the news?" variety. The next generation would have stories about November 22nd, 1963, and our own has stories of September 11th, 2001. About the only thing that has truly changed is the speed with which we learn the news. Back in 1941, radio was, of course, the essential medium for "breaking news." Then the newspapers would publish their special editions with details of the story ("Extra! Extra!"). We get news much more quickly today, but the human reaction is pretty much the same. It takes a while for it to sink in that one terrible event is going to change life in countless ways. My father would spend the next four years of his life fighting the war in Europe. I'll be shutting out the market news for a moment and pausing from the Christmas season excitement to give thanks for all of the men and women who have served--and who serve today--our country in uniform. And Happy Birthday, Dad.
Life is short. Get busy.
Jim
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