ETF Talk: A Return to Bargain Buying

We’ve been hearing news that the worst of the recession may be over. This optimistic view was fueled by a push in the S&P 500 above the psychologically significant 1,000 mark, and by reports from economists who say that the housing market may have reached the bottom. The recovery in stock prices has restored some sense of financial security to consumers, but it remains to be seen whether Americans are ready to spend money with confidence. But even if they do start spending, they likely will be watching their pennies a lot closer. What this means is that bargain retailers could be ready to ring the register.

One exchange-traded fund (ETF) that I’ve had my eye on to profit from a change in buying habits is the SPDR S&P Retail (XRT). The investment seeks to replicate as closely as possible the performance of an index derived from the retail segment of a U.S. total market composite index. The fund is designed to track the total return performance of the S&P Retail Select Industry index.

The table below shows XRT’s top 10 holdings. As you can see, the fund is heavily weighted toward discount-oriented stores:

As shoppers look for bargain prices during the recession, discount retailers such as those in XRT’s portfolio have seen relatively strong sales.

TJX Cos., which operates T.J. Maxx, HomeGoods and other discount formats, is seeing its same-store sales rise as consumers look for value. The company said its same-store sales rose 4% in July, beating Wall Street’s forecast for a 2.3% increase from July of last year.

For the second month in a row, Kohl’s Corp., an operator of mid-priced department stores, posted increased sales at stores open at least a year. It reported an increase in sales of 0.2%, topping the 1.7% decline that analysts forecasted.

Retailers, including Costco Wholesale Corp., reported that more shoppers visited their stores last month than a year ago. Target Corp., which announced a 2.9% sales decline — much narrower than analysts forecasted — has started to emphasize competitive prices in its newspaper ads and store signs.

By concentrating on stores that offer quality items at a reduced price, XRT’s share price has been climbing. The chart below shows a clear uptrend in XRT since late March.

Marketers are aware that consumers are steering clear of luxury-goods sellers like Saks Inc. and Nordstrom Inc., which both posted weak sales recently. What is clear is that consumers are looking for value.

With worries about the rising unemployment rate and with 2008’s market drop a not-too-distant memory, consumers not only seem to be spending cautiously, but boosting savings and reducing borrowing. A March study of consumer habits showed that savings as a percentage of income among Americans is expected to climb to 14.3% next year from 0.6% in 2006. This diversion of dollars from spending to saving has a great impact on retailers.

It may not surprise you that the recent recession has caused a shift in the way that consumers spend their money. Bargain hunting and budgeting have become a necessity for most households during the past year. When it comes to shopping, value-conscious consumers are more willing to shop around for deals or do without. Even high-income shoppers are budgeting more carefully. On the whole, people value their money more than ever.

And there is evidence that these frugal spending habits may be hard to break. Americans borrowed less for the sixth consecutive month in July, according to the Federal Reserve. Total borrowing, consisting of consumer loans other than mortgages, decreased at a 10.4% seasonally adjusted annual rate in July 2009 to hit $2.47 trillion. July’s $21.6 billion drop from June 2009 was a record decline, with total credit falling at a 7.4% annual rate in June. Retailers and marketers should beware: the cost-conscious consumer is here to stay.

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