Dear Bottarelli Research Reader,
After watching high-beta retailer Fossil (FOSL – NYSE) get clobbered today, here’s the most important question you can ask yourself:
“Can the rest of retail stocks hold up?”
I’m not talking about grocery stores. We can talk about their problems another day.
Specifically, I want to know how all those over-priced hoodie shops, electronic toy stores, and $12 fruit smoothie joints are going to pull together another quarter of profit growth when employment is most assuredly not growing.
If these names can’t come up with a way to grow, that means they’re incredibly overpriced.
And as you saw with FOSL’s $40 drop on Tuesday, the downside could be substantial.
Here’s what you need to know…
Winter Hiring Melts Away
For months, Wall Street blew smoke up our skirts, saying things like an usually warm winter encouraged strong retail numbers (and an unusual wave of seasonal hiring).
“It’s all good now – the economy is finally turning around!”
Well, now we’re faced with a cold spring, reducing that “tidal wave” of hiring into a mild tidal swell. In fact, the only reason the official unemployment rate managed to squeak down 0.1% month over month is because fewer folks were participating in the total employment pool.
Here are some of the gory details from the latest report (starting with that participation figure):
- The labor force participation rate has fallen to 63.6% (illustrated in the chart below). The last time it was this low, Ronald Reagan was still in his first term.
- Total employment is officially 8.1%.
- Underemployment is flat at 14.5%.
- April saw some 115,000 new jobs. That’s a 28% miss compared to the 160,000 we were told to expect.
- Weekly hours worked are dead flat.
- Average hourly earnings grew 0.2% month-over-month.
Reliable Intelligence
The official story is bad enough. But, this doesn’t even really begin to describe the actual situation on the ground.
If you query a more reliable intelligence source (such as global outplacement firm Challenger, Gray & Christmas), you’ll find that U.S. employers are still improving their bottom lines by firing workers whenever possible.
Case in point, Challenger’s pool announced 40,559 planned job cuts in April, up 7.1% from March and up 11.2% over last April.
This week, Federal Reserve Bank of Richmond President Jeffrey Lacker warned that much of the U.S. unemployment results can’t be fixed by additional Fed stimulus.
He said…
Some commentators are urging the Fed to take additional action as long as the unemployment rate remains elevated. But if elevated unemployment reflects largely fundamental factors rather than insufficient spending, such stimulus might have little impact on unemployment and instead just raise the risk of pushing inflation up.
The plain English version: You can juice the market until the cows come home, but it won’t put these people back to work. Those jobs are gone, and all we’ve done is jack prices.
Building a Solid Sell
As we mentioned repeatedly over the past few weeks, the rest of the market has figured out what’s coming next – and they’re now adjusting their exposure to the growing risks.
For example, when you look to the technical charts for the Industrial Select Sector SPDR (XLI – NYSE), you can see that factory stocks have broken the back of the rising trend, and they’re now building a clear Sell Signal Stack that will cost this index -13% in a heartbeat.
Major players (by weight) on this list include:
- General Electric (GE – NYSE): 11.02%
- United Parcel Service (UPS – NYSE): 5.57%
- United Technologies (UTX – NYSE): 5.47%
- Caterpillar (CAT – NYSE): 4.92%
- 3M (MMM – NYSE): 4.60%
When the XLI says sell, it means that the majority of investors are already looking toward unloading these giants of industry.
Can’t Buy a Break
The investment banks of the Financial Select Sector SPDR (XLF – NYSE) are not slated to fare any better. When we look to the XLF’s technical chart, we see the same broken rally and building distribution of shares.
This index could easily lose 16% of its total value this summer – and that would still be spun by some as a bullish scenario.
The top weighted outfits on this index are:
- Wells Fargo (WFC – NYSE): 9.69%
- JPMorgan Chase (JPM – NYSE): 8.74%
- Berkshire Hathaway B (BRK.B – NYSE): 7.95%
- Citigroup (C – NYSE): 5.09%
- Bank of America (BAC – NYSE): 4.68%
These five companies represent some 18% of the XLF. So, when this chart yells sell, these shares simply have to go on your watch list. (In our premium service Bottarelli Research LEAPS, we take a more proactive approach. We’ve already recommended puts against two XLF companies and one XLI player.)
High-Beta Breakdown
Usually, retail shares have a high beta correlation to financial and industrial shares. But, with 70% of our economy focused on sales and service, even retail can’t grow when their customer base isn’t growing.
Keeping that in mind, when you look to the technical chart for the Consumer Discretionary SPDR (XLY – NYSE), you’ll see that the rising trend has been broken. Share accumulation is giving way to distribution, and the Moving Average Convergence/Divergence oscillator is offering up the first half of a Sellers Cross.
The largest companies by weight on the XLF are:
- McDonald’s (MCD – NYSE): 6.98%
- Amazon.com (AMZN – NASDAQ): 5.88%
- Comcast (CMCSA – NASDAQ): 5.73%
- Home Depot (HD – NYSE)
- Walt Disney (DIS – NYSE)
The Big Takeaway: While we can see the same indications of a pending sell-off that have already cost the XLI and XLF marked losses, retail investors are only just beginning to see the writing on the wall.
FOSL Gets Buried
Just this week, we noted in Bottarelli Research Chart of the Day that retailer Fossil (FOSL – NASDAQ) beat analyst guesstimates with an 8% increase in earnings per share – and crashed on the news.
It turns out that Europe’s grinding recession has forced the watch maker to miss on total Q1 sales and cut their estimates for the full year. Here’s their horrific reaction:
As it turns out, FOSL’s fall was totally predictable. FOSL’s technical chart displayed the same Sell Signal Stack we have repeatedly warned you to beware of. This same fate predicts the end game for at least a dozen larger retail players.
How to Play It
At the beginning of today’s issue, I asked you if retail could stand on its own – without the support from the rest of the economy.
My answer to you is “No.”
The sector is overdue for a 16% haircut. And, as we saw this week with FOSL, weaker companies could easily double that loss.
The fact of the matter is that most retail stocks have not discounted this fact yet.
You can play this defensively by placing trailing stops below any retail stocks in your portfolio, using the XLY’s roster as a guide.
Or, you can do what we are doing in our premium services like Bottarelli Research Options and Bottarelli Research LEAPS and begin purchasing put options against the weakest players (like FOSL).
Sincerely,
