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Retail Earnings Drag Down Consumer ETFs

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The consumer sector has held up pretty well so far this year on the back of increasing consumer confidence and spending. We have seen encouraging data in a number of key areas that are important to consumers.

Meanwhile, the job market is improving slowly, housing is on the upswing and oil prices are at moderate levels. This suggests that a continuation of the bull run could take place in this important market segment as consumers have plenty of extra cash to spend on discretionary products and services (read: 3 Top Ranked Consumer ETFs to Buy Now).

However, weak earnings results and a bleak outlook from some major retailers such as Wal-Mart (WMT - Free Report) , Macy’s (M - Free Report) , Nordstrom (JWN - Free Report) , and Kohls (KSS - Free Report) , have raised concerns about the prospects of spending in the coming months. A challenging retail environment in the U.S. and most of the international markets due to cautious consumer spending hurt the top line of these firms in the quarter.

Retail Earnings in Focus

Wal-Mart, the world's biggest retailer, again saw sluggish trends in the second quarter. EPS came in at $1.24, missing the Zack’s Consensus Estimate by a penny. The company also missed revenue expectation marginally, coming in at $116.9 billion. This is the second consecutive earnings miss by Wal-Mart.

Due to a challenging retail environment, the company lowered its outlook for the fiscal 2014. Wal-Mart now expects sales to grow in the range of 2–3% from the earlier prediction of 5–6%. EPS guidance has reduced by 10 cents to $5.10–$5.30. Based on this lackluster result, the shares of WMT fell nearly 3% (read: The Comprehensive Guide to Retail ETFs).

Additionally, Macy’s also posted lower-than expected results in the quarter. EPS of 72 cents came in below the Zacks Consensus Estimate of 78 cents and revenue of $6.1 billion fell short of the Zacks Consensus Estimate of $6.2 billion.

For fiscal 2013, the company expects earnings per share in the range of $3.80–$3.90 on sales growth of 2–2.9% compared to the previous guidance of $3.90–$3.95 on 3.5% sales growth. The shares of Macy’s were down about 5% on the day of the earnings announcement (on Aug 14).

Meanwhile, Nordstrom and Kohls bucked this trend on the bottom line beating their Zacks Consensus Estimate (read: Retail ETFs to Watch on Sales Data and Q2 Results).

JWN posted EPS of 93 cents that strongly topped our estimate of 88 cents. Revenue of $3.2 billion came in below our expectation.

The company cut its full-year EPS guidance to $3.60–3.70 from $3.65–3.80 and revenue growth to 3–4% from 4–6%. Shares of JWN slumped by about 3% in after-hours trading.

Kohls’ quarterly EPS came in $1.04, outpacing our estimate by a penny. Revenues of $4.289 billion slightly missed our estimate of $4.298 billion. The company narrowed its higher end of the full-year EPS guidance by 10 cents to $4.15–$4.35. However, the shares climbed 5.3% at the close, marking the biggest increase since July 2012.

Consumer ETF Impact

Declining consumer spending and pessimism over the outlook by these four major players were obviously poorly received by investors. The news not only hurt these companies but also a number of retail companies in the broad consumer space, as these are considered bellwethers in the sector.

This is best represented by the following ETFs, as these funds have the biggest allocations to the retail sector and thus could be the most in focus in the coming weeks (see more in the Zacks ETF Center):

PowerShares Retail Fund (PMR - Free Report)

This fund provides exposure to the companies engaged in general merchandise stores such as department stores, discount stores, warehouse clubs and superstores by tracking the Dynamic Retail Intellidex Index. The ETF has managed assets worth $39.2 million and charges 63 bps in fees and expenses.

In total, the product holds 30 securities, which is somewhat concentrated on its top 10 holdings. Kroger (KR), Gap (GPS) and Whole Foods Market (WFM) occupy the top three spots in the basket with a combined 15.35% share.

PMR lost 2.05% on the day but is up 27.38% year-to-date. The product has a Zacks Rank of 1 or ‘Strong Buy’ rating with a ‘Medium’ risk outlook.

Vanguard Consumer Staples ETF (VDC - Free Report)

This fund manages over $1.5 billion asset base and provides exposure to a basket of 113 consumer stocks by tracking the MSCI US Investable Market Consumer Staples 25/50 Index. The product charges a low fee of 14 bps per year from investors (read: The Comprehensive Guide to Consumer Staples ETFs).

The ETF is highly concentrated across its top 10 companies at nearly 62% of the assets. The product is widely spread across household products, soft drinks, packaged foods & meat, tobacco and hypermarkets & super centers which make up for double-digit allocations in the fund.

VDC lost 1.74% on the day but delivered strong returns of 18.7% in the year-to-date timeframe. The fund has a Zacks ETF Rank of 3 or ‘Hold’ rating with a ‘Low’ risk outlook.

iShares U.S. Consumer Services ETF (IYC - Free Report)

This ETF tracks the Dow Jones U.S. Consumer Services Index, giving investors exposure to the broad consumer discretionery space. The fund holds about 183 stocks in its basket with AUM of $447.3 million while charging a slightly higher fee of 46 bps per year from investors.

The product is well spread across each security as top 10 holdings account for 39% share. WMT, Comcast (CMCSA) and Walt Disney (DIS) take the top three spots in the basket with a combined 15% of IYC. From a sector look, about two-fifths of the assets are allocated to general retail, followed by media (28.78%) and travel & leisure (19.82%). 

The fund lost 1.83% on the day but is up 21.94% in the year-to-date time frame. The product has a Zacks ETF Rank of 2 or ‘Buy’ with a ‘Low’ risk outlook (read: Time to Buy This High Ranked Consumer ETF?).

Bottom Line

It seems that many retailers would be dealing with strong headwinds for the remainder of the year especially with the lower outlook form Wal-Mart, Macys, Kohls and Nordstorm. So, investors should be cautious while trading in the above consumer ETFs that have a big allocation to the retail sector.

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