Is it game, set and match for traditional retailers? You would think so, looking at the slow foot traffic in shopping malls these days as Amazon.com and other online firms lure away shoppers. The migration to e-commerce was clearly evident in the current earnings season, as big box retailers such as Dick’s Sporting Goods, Bed, Bath & Beyond, and JC Penney reported dismal quarterly results.
At least those firms remain profitable. The situation is perhaps more troubling for smaller retailers that struggle to generate profits as same-store sales weaken. Moody’s predicts that nearly a quarter of the retailers it tracks have credit ratings of Caa or lower. And many of those firms will be facing large debt repayment obligations over the next 18 months.
The SPDR S&P Retail ETF (XRT), the largest sector fund by far with $286 million in assets and a 0.35 percent expense ratio, is emblematic of the industry’s woes. Since July 1, 2015, it has slid roughly 25 percent, even as the S&P 500 has risen around 15 percent.
After such a large degree of underperformance, does this struggling ETF deserve a fresh look? After all, the average stock in this portfolio trades for just five times forward cash flow.
Don’t look for an industry rebound any time soon, says Linda Bolton Weiser, an analyst at D.A. Davidson. She predicts that shares of some retailers “will go to zero” as mall traffic remains in a slump. “Others will see only a slow decline,” she adds.
The challenge for retailers is to rapidly strengthen their own e-commerce sales channels to regain lost ground. After all, the share of retail sales going to e-commerce will more than double over the next decade, according to Moody’s. Trouble is, “the decline in mall-based sales are larger than the offsetting growth in these firm’s e-commerce sales,” says Bolton Weiser.
The mall-based woes are especially bad news for the SPDR S&P Retail ETF, whose portfolio constituents have very little exposure to e-commerce. The VanEck Vectors Retail ETF (RHT), with $72 million in assets and a 0.35 percent expense ratio, has managed to handily outperform the larger S&P SPDR ETF -- for one simple reason. A massive 22 percent stake in Amazon.com.
That’s an unusually large percentage, and may stay in that range in the period ahead. Even after quarterly rebalancing, a single holding may constitute up to 20 percent of the fund, says Mike Cohick, a product manager at VanEck.
The VanEck fund tracks an underlying index, the MVIS U.S.-Listed Retail 25 Index, which focuses on industry leaders. Its next 10 holdings account for another 50 percent of the fund, including firms such as Home Depot, Wal-Mart, CVS Health and Costco, which tend to operate outside of the beleaguered mall environment. Heavy portfolio concentration might normally be a concern for a fund. But as Cohick notes, “the retail sector is undergoing a transformation, which is being led by large disruptors,” (such as Amazon.com). Notably, other major retailers in this fund like Costco and Wal-Mart have thriving online portals.
If Moody’s and others are correct in predicting that the migration to online shopping will only strengthen from here, then the Amplify Online Retail ETF (IBUY) holds clear appeal. The fund, which carries a slightly stiff 0.65 percent expense ratio, has clearly resonated with investors. It already has nearly $90 million in assets, even though it has been open for trading for just 16 months.