Add another inconsistency> to this already schizophrenic U.S. economy: Consumers continue to be cautious when it comes to buying stuff, but when they do open their wallets, they're splashing cash on top-of-the-line jeans, $100 yoga pants and Ugg boots. All of which has turned these retail niches into a curious opportunity for people shopping not for jeans but for stocks.
Indeed, while sales are actually falling at some big stores, including Walmart, stuff is flying off the shelves at certain niche retailers. Lululemon Athletica, for example, the purveyor of those pricey yoga pants, saw its sales skyrocket 60 percent during the past three quarters, compared with the same period a year earlier. The new year hasn't changed the spending spree. Sales were up 4.6 percent at specialty retail stores in the first part of 2011, compared with 3.3 percent at discount stores. Despite the questionable economy, these stores have been able to figure out their customers' needs and cater to them considerably better than many of their bigger rivals, analysts say. "You have to be better today at coaxing money out of the customer's wallet, and most retailers are not as good at coaxing," says Patty Edwards, chief investment officer of Trutina Financial, a Bellevue, Wash. based money-management firm.
It's not surprising that the top-performing niche players have attracted some investors. Some of the store stocks have risen 50 percent or more in the past 12 months. Andrew Beck, president of River Road Asset Management, a Louisville, Ky. based firm with more than $4 billion under management, sold his shares of teen retailer Abercrombie & Fitch late last year, after the shares rose 68 percent during the five months he held it, versus 16 percent for the overall market. But smart shoppers can still find attractive buys; it's just a little tougher to unearth them, Beck says.
The best opportunities are in stores with little debt and some pricing power. An example: True Religion, a Vernon, Calif. based jeans company. While its catalog is filled with bare-midriff college-age kids, its jeans actually have a following among a slightly older, wealthier clientele. Its stock is valued much lower than that of many other retailers, a factor Beck attributes partly to investors' concerns that the rising cost of cotton will hurt the company. But pricing power will help the company weather the increase, Beck says. Investors also worry that if the company expands its free-standing stores as planned, they will cannibalize its department store sales, but Beck has confidence its management can execute the strategy without that conflict. Beck says his wife is one of those loyal customers willing to pay $150 or more for the company's dungarees: "Once you buy jeans that fit, you tend to buy them again and again," he says.
Another niche retailer, Chico's, is more of a comeback story, analysts say. The Fort Myers, Fla. based chain, which prides itself on offering stylish clothes for women age 35 and over, stumbled years ago by failing to differentiate its merchandise from that of competitors. But new management has helped it "reinterpret classic" and offer styles that are polished but not fussy, Edwards says. Chico's customers didn't stop going to the stores, and sales for the company were up 11 percent in its 2010 fiscal year. Investors also like the firm's online opportunities; less than 10 percent of its business is online a small amount compared with most of its peers. The company spiffed up its website in an effort to boost online orders, which are cheaper for companies to deliver.
To be sure, specialty retail stocks remain particularly vulnerable to any further dips in the U.S. economy. These stocks are among the first to fall on signs of a downturn. What's more, many niche retailers are small stocks, which tend to be more volatile in any market. Rising commodity costs have begun hurting companies across the economy, and specialty retailers are no exception. Expensive oil results in increased shipping costs for retailers, while higher cotton prices cut into apparel makers' profits.
Retailers haven't passed along these costs yet, but many pros expect consumers to see higher prices on their shirts and shoes by midyear or early fall. Persistently high unemployment would weigh on the stocks as well. Still, if the recovery continues, some analysts see specialty retailers continuing to excel. Consumer confidence is on the rise for now, at least and the National Retail Federation expects overall retail sales to grow 4 percent this year, compared with 2010. Plus, many of these retailers have shown they can attract sales even when their rivals can't.