Mixed economic outlook could spell trouble at mass - year 2000 - Brief Article - Industry Overview

Discount Store News, Jan 3, 2000 by Mike Troy

DSN NATIONWIDE REPORT -- Retailers face an uncertain outlook for consumer spending in the year ahead, and economists and analysts once again are concerned about increasing interest rates, slowing wage growth and an economy that is supposedly overdue for a slowdown.

Retailers, of course, always face an uncertain future, and the same concerns clouding the horizon in 2000 existed in previous years.

This year, growth in consumer spending is expected to remain the same or slow down, and that concerns the experts who foresee difficulty in comparing figures against last year's sales and earnings.

"Although consumer confidence, employment levels and consumer spending remain relatively strong, the potential for lower rates of stock market appreciation and lower rates of mortgage refinancing--areas that typically increase consumer's cash flow, as well as potentially lower corporate profits--presage a potential slowing of retail sales," according to Moody's Investors Service. "Any slowdown in economic growth will challenge retailers, especially those that have had difficulties even during the best of times that we have been experiencing."

Such a cautionary tone is expected from a credit rating agency with a natural bias toward what might go wrong. Others are more optimistic that consumer spending can remain at healthy levels.

"People are optimistic at this point about their jobs, interest rates are low and consumer confidence is high. All those things add up to peoples' willingness to spend," said James Butkiewicz, chair of the economics department at the University of Delaware. "The most important thing that's happening currently is improving economic conditions in other parts of the world, and that is good for the demand of US. products."

For retailers, though, an improving global economy is a double-edged sword. Depressed economies, especially in Asia, have allowed retailers to obtain higher quality imported goods at lower prices. With those countries' fortunes improving, retailers may face a higher cost of goods. The flip side is overseas demand for U.S. products that will keep American workers on the job with money to spend.

"Global growth is picking up steam," said Lorraine Wang, a fundamental economic analyst at Morgan Stanley Dean Witter. "Our belief is consumer spending in 2000 will be as strong as it was in 1999. It is very hard to see anything right now as a potential road block that will disrupt the economy.

Wang said the Federal Reserve is expected to nudge up the federal funds interest rate as it taps the brakes on inflation. However, the likelihood of those increases hasn't dampened Morgan Stanley Dean Witter's overall bullish view of the stock market.

In addition to higher interest rates, JP Morgan analyst Shari Eberts is concerned about a slowing in the rate of real wage growth and the inevitable impact on consumption growth, since the two are closely tied.

"Something's got to give at some point," Eberts said. "Consumer spending is going to be slower than it has been, but not disastrously slower."

As Moody's noted, any slowdown in economic growth could spell trouble for some retailers, particularly those who found it difficult to produce sales growth during what is routinely referred to as the greatest economic expansion in the nation's history. According to analysts, that's the reason there has been a flight to quality among retail stocks.

"People are looking for growth, and they are willing to pay up for dominance and certainty," according to Eberts.

The result is shares of companies such WalMart, Dayton Hudson, Home Depot, Costco, Staples, Tandy and Walgreen have continued to appreciate and now seem expensive on the basis of their price to earnings ratios. On the other hand, shares of retailers such as Kmart, Toys "R" Us, OfficeMax, The Sports Authority and Rite Aid have underperformed the market as their sales and earnings growth has lagged behind other premier retail operators.

"Retailers such as WalMart, Home Depot and some of the other top names have become an asset class unto themselves," said Dan Wewer with Deutsche Banc Alex. Brown. "There's no reason to think that they can't continue to do well next year."

Wewer and other analysts see the year getting off to a rocky start with first quarter sales comparison being difficult because the first quarter of 1999 was incredibly strong. "Another big question mark for next year will be early in the year when we see. how much the paranoia over Y2K shifted traditional January sales into December," Wewer said. "Otherwise, prospects look good for the rest of the year."