Though retailers ended 2011 on a strong note with holiday sales rising 4.1%, the economy is still in consumers’ hands going forward. Whether this is a good thing or not remains to be seen as the market is still quite uncertain thanks to weak—but improving—job growth, unseasonable weather, and geopolitical factors.

Those retailers fortunate enough to start the year on a good note have consumer-driven supply chains and profit-seeking inventory platforms to thank for minimizing markdowns while avoiding the carryover of unwanted holiday product. The new frontrunners of 2012 will be retailers that cultivate transformation and continue to include technological advances in their planning (see Top Three High Yield Global Sector ETFs).

This innovation, coupled with distinctive service delivery models, is the key tool for retailers in order to sustain their competitive advantage. Retailers should provide a complete blend of price, quality and convenience in order to gain the consumer’s confidence.

Better management of inventory level coupled with extending the global footprint should also provide a platform of growth for retailers to grow. Retailers are also getting into private label offerings which should boost profit margins as well (read Top Three High Yield Financial ETFs).

A number of retailers are using the point-of-sale systems and loyalty program in order to collect data and gather actionable insights for the business. Highly developed analytics can help many retailers as it will assist them to uncover demand patterns, improve inventory assortment and find out how pricing elasticity will impact purchase behavior.

Addressing the Challenges

Every challenge comes with an opportunity and most of the retailers have hunkered down and incorporated many strategic measures to mitigate the top-line headwinds. Starting from enhancing the supply-chain management to going global, from improving their productivity through operating efficiencies to bringing in the technological advancements, the retailers are trying to play use every advantage they can think of.

With consumers attaining confidence in the market and increasing their spending power, companies are focusing on cost containment, inventory management and merchandise initiatives to improve margins through leverage on buying and occupancy expenses.

Going forward, with the advent of technology, an increasing number of consumers are using smartphones and tablets to purchase items. Thus, most of the companies have incorporated e-commerce platforms to bring in incremental gains (read Three Low Beta Sector ETFs).

The technological advancement in marketing such as ecommerce and online business, provides a win-win situation for both the retailers and shoppers, as it enables the companies to generate additional sales and broadens the company’s existing customer base throughout the world.

Moreover, it also enhances the visibility and reputation of the retailer as a global firm, offering great fashion and value at the same time. On the other hand, shoppers get the benefit of purchasing researched products at the best prices, as they can compare the prices being offered by various companies.

Further, the international turf provides ample long-term opportunities for retailers to enhance their margins. Thanks to globalization, retailers have the opportunity to explore and add newer markets for their products by opening new stores or through more robust e-commerce sites.

Improvement in the exchange-traded fund industry has showed the path for the building of products inclined towards the retail industry. Investors seeking to play on this slice of the market should look for ETFs like XRT, PMR and XRT. If sales and earnings prove to be strong, these funds could get a nice boost. However, if investor anxiety and recent market turbulence causes consumers to cut back, retail funds could be dealt another blow.

SPDR S&P Retail ETF ( XRT - ETF report )

SPDR S&P Retail ETF is an exchange-traded fund incorporated in the USA. The Fund's objective is to replicate as closely as possible the performance of the S&P Retail Select Industry Index, an equal-weighted index. The Fund uses a passive management strategy designed to track the total return performance of the benchmark.

The Retail Index represents the retail sub industry portion of the S&P TMI. The S&P TMI tracks all the United States common stocks listed on the New York Stock Exchange (NYSE), American Stock Exchange (AMEX), National Association of Securities Dealers Automated Quotation (NASDAQ) National Market and NASDAQ Small Cap exchanges.

Investors should also note that this fund is not a market cap weighted product like many others in the space, but is instead equal weighted. This technique concentrates more on small and medium cap companies rather than the larger ones (read Are Telecom ETFs In Trouble?).

While XRT focuses exclusively on retail companies, it spreads its portfolio across various corners of this market. XRT is by far the largest fund in the category with 96 holdings and somewhat low expense ratio of 35 basis points. The fund has 13.59% in its top ten holdings with Winn-Dixie holding the top spot followed by Netflix and Cabela. Despite the high concentration on small and mid cap companies, the fund has been able to deliver a good return of 23.29% in the one year time horizon.

XRT Top Three Holdings

1. Winn-Dixie Stores, Inc. (WINN): 1.72%
2. Netflix, Inc. ( NFLX - Analyst Report ) : 1.51%
3. Cabela's, Inc. (CAB): 1.36%

PowerShares Dynamic Retail Portfolio ( PMR - ETF report )

PMR exchange trading fund tracks the Retail Intellidex. This equity index is intended to offer capital appreciation by appraising companies on the basis of a range of investment criterion which includes fundamental growth, stock valuation, investment timeliness and risk factors.

Investors should note that to obtain exposure via this route you will have to pay 60 basis points, the highest in the list. PMR does maintain significant exposure to small cap and large cap companies and holds a total of 31 companies (see Why SSDD Is The Top Tech ETF).

The fund is also to some extent concentrated more on top ten holdings with 45.9% of the fund in top 10 companies. Ross Stores holds the first position in the list which is closely followed by Whole Foods Market and TJX Companies. This has helped the company to deliver a return of 26.8% during the trailing one year period.

PMR Top Three Holdings

1. Ross Stores, Inc. (ROST): 5.11%
2. Whole Foods Market, Inc. (WFM): 5.00%
3. TJX Companies (TJX): 4.98%

MARKET VECTORS RETAIL ETF ( RTH - ETF report )

RTH tracks the Market Vectors U.S Listed Retail 25 Index. The fund has a shallow portfoliocomprised ofless than 30 securities with more than 50% exposure in the top ten holdings. This exposure is more focused towards large cap and mid cap companies as well, with giant caps making up most of the biggest spots.

The fund holds a total of 25 stocks with 59% concentration in top ten holdings and for this the fund charges fees of 35 basis points. Wal-Mart occupies the top position in the fund at just over 11% of the total. RTH does, however, offer a significant amount of exposure to online retail behemoth, Amazon, Inc as well, giving the fund decent exposure to e-commerce as well. Despite the focus on large cap companies, the fund delivered a return of just 14.4%.

RTH Top Three Holdings

1. Wal-Mart Stores Inc ( WMT - Analyst Report ) : 11.09%
2. Home Depot, Inc. (HD): 6.99%
3. Amazon.com Inc (AMZN): 6.61%

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