Checking Out Food Retailers

The industry has favorable stock-price momentum, but its fundamentals are neutral. Still, S&P has three names worth putting in your cart

The S&P 1500 Food Retail subindustry index is the newest member of the High Momentum List (see the list at the end of this story), indicating that its trailing 12-month price performance is now in the top 10% of all 136 subindustries in this composite benchmark (which consists of the S&P's 500-stock index, MidCap 400, and SmallCap 600 indexes). Year to date, through Apr. 20, the S&P Food Retail Index increased 17.1%, vs. a 5.1% rise for the S&P 1500. In 2006 the S&P Food Retail Index gained 15.2%, vs. a 13.3% advance for the S&P 1500.

Take a look at the accompanying chart, which shows this subindustry index's rolling 12-month price performance compared with the S&P 1500. Any point above 100 indicates sector outperformance vs. the S&P 1500 over the prior year, while points below 100 show sector underperformance. The red line is a rolling nine-month moving average, while the two green bands indicate one standard deviation above and below the index's longer-term mean relative strength.

Joseph Agnese covers the companies in the S&P Food Retail index for S&P Equity Research Services. There are seven large, midsize, and small-cap companies in this subindustry index, three of which carry favorable investment opinions: Casey's General Stores (CASY), Great Atlantic & Pacific Tea (GAP), and Kroger (KR), each of which carry an S&P investment rank of 4 STARS (buy).

Standing Out From Rivals

Agnese's fundamental outlook for the S&P Food Retail index is neutral. He believes current valuations for these stocks appropriately reflect benefits that S&P sees from traditional food retailers shifting operational strategies. These strategies are focused on differentiating stores through product and service offerings rather than low prices. As a result of these strategies, Agnese looks for traditional grocery chains to gain market share with average comparable-store sales growth in the mid-single digits in 2007.

The analyst believes improving sales trends will continue to reflect food retailers' progress in differentiating store offerings from low-price competitors. S&P thinks competitive pressures should ease somewhat as more chains focus on increasing the number of remodelings, rather than on new openings. Agnese looks for margins to stabilize, as savings from newly renegotiated labor union contracts and improved sales leverage help offset more competitive pricing and increased promotional activity. Newly renegotiated labor contracts should help control wage and health-care expenses, in his view.

Additionally, Agnese thinks that consolidation could ease competitive pricing pressures in some markets, as well as improve operating profitability over the intermediate term for active participants, by further leveraging overhead expenses over a greater number of stores. However, S&P thinks risks remain high as differentiation strategies are rolled out, and margin pressures may result as pricing competition remains intense in some markets.

Focus on Product and Service

Agnese thinks the subindustry's year-to-date outperformance in 2007 reflects improved comparable-store sales trends due to food retailers' shifting operational strategies, which he believes are becoming increasingly focused on differentiation through product and service offerings rather than low prices.

So there you have it. The group's longer-term momentum continues to improve, and, even though the group's overall fundamental outlook is neutral, three of the seven component stocks have positive investment opinions.

Industry Momentum List Update

For regular readers of the Sector Watch column, here is this week's list of the industries in the S&P 1500 with Relative Strength Rankings of "5" (price performances in the past 12 months that were among the top 10% of the industries in the S&P 1500), along with a stock that has the highest S&P STARS (tie goes to the issue with the largest market value).

Subindustry Company S&P STARS Rank Price (4/20/07)
Apparel, Accessories & Luxury Goods Coach (COH) 3 $54
Broadcasting & Cable TV Comcast (CMCSA) 4 $28
Department Stores Nordstrom (JWN) 4 $57
Diversified Metals & Mining Freeport-McMoRan (FCX) 3 $70
Electric Utilities FPL Group (FPL) 4 $62
Fertilizers & Agr. Chem. Monsanto (MON) 3 $59
Food Retail Kroger (KR) 4 $30
Independent Power Producers AES (AES) 4 $23
Integrated Telecom. Svcs. Citizens Communications (CZN) 5 $16
Metal & Glass Containers Ball Corp. (BLL) 4 $50
Personal Products Avon Products (AVP) 3 $39
Steel Carpenter Technology (CRS) 4 $127
Tires & Rubber Goodyear Tire (GT) 3 $33
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