To Buy or Not: Assessing Wal-Mart and Discount Retailers

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Whenever the stock market declines, it is helpful to take a look at some of the stocks that are outperforming and consider adding them to your portfolio. Often, this outperformance can be seen in defensive sectors such as utilities and consumer staples. In fact, the SPDR Utility ETF (NYSEARCA:XLU) hit a 52-week high on Friday while stocks were generally weak. Another sector that I think investors should follow, especially given its weak performance towards the beginning of the year, is the discount retail space.

Discount retailers had a rough couple of months at the beginning of 2014. Wal-Mart (NYSE:WMT) — the leader of the group — saw its stock price decline 10 percent into early February before rebounding. Weakness in the shares of dollar store operators such as Dollar General (NYSE:DG) and Family Dollar (NYSE:FDO) saw weakness going into April.

However, on Friday, all of these stocks rose. In particular, the dollar stores were strong. Dollar General and Family Dollar shares were each up around 2 percent while the S&P 500 fell nearly 1 percent. Furthermore, this strength was on high volume, which means that while investors were selling off stocks more generally they specifically targeted discount retailers.

Discount retailers have started to outperform for a couple of reasons. First, while commodity prices were rising during the first part of the year, we have since seen a correction in the price of oil and natural gas, which makes these low-margin businesses more profitable to operate.

Second, consumers are pulling back. This is evidenced by the weak performance in retail stocks more generally. In fact the SPDR Consumer Discretionary ETF (NYSEARCA:XLY) — which tracks the shares of companies that perform well when consumers are spending more money — is down 5 percent for the year. When consumers stop shopping at expensive retailers, they start shopping at discount retailers such as Wal-Mart and Dollar General.

Given these points, I suspect that if the stock market remains weak that the discount retail stocks will perform well, at least on a relative basis.

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