This week, CIO Tom Weary, CFA®️, discusses October’s rise in retail sales before reporting on Q3 earnings for Target Corporation, Home Depot, and TJX Companies. He also shares the logic behind current trades in RFA’s Core Portfolio.

Transcript

Hi, I’m Tom Weary here Reilly Financial Advisors with your Weekly Market Update. We heard from a number of our companies this week, are making several trades in the Core Portfolio, and also had some interesting economic data to review on both the Consumer and Industrial sides of the economy, so let’s start there first.

American consumers withstood rising inflation to power a burst of shopping ahead of the holiday season, with big retailers reporting higher sales and expectations for a solid finish to the year.  Sales at U.S. retail stores, online sellers and restaurants rose by a seasonally adjusted 1.7% in October compared with the previous month, the Commerce Department said. Core retail sales, a measurement that excludes spending on autos, gasoline, building materials and food services, were up 1.6%, showing consumers increased discretionary spending in addition to taking on higher prices for necessary goods. Consumers continue their stepped up spending despite ongoing COVID-19 fears and inflation concerns. The elevated spending levels suggest solid holiday sales this season, lifting the economy as a whole. Spending rose sharply, by 4%, at online retailers, along with big gains at electronics, appliance and hardware stores.  Grocery store sales rose by 1.1%, while restaurant and bar sales were flat. Retailers are raising their expectations for their holiday sales.

Turning to the industrial side of the economy, the government reported that U.S. industrial production in October rose a surprising 1.6% over the prior month, as you can see in this first chart. Manufacturing production also surprised to the upside, as you can see in this second chart, hitting the highest level since early 2019. As the manufacturing sector recovers from the pandemic, capacity utilization continues to increase, with October’s reading coming in at a surprising 76.4%, as can be seen in this last chart.  It appears that the impact of the pandemic continues to wane on the manufacturing side of U.S. economy.

On Tuesday, Home Depot, a holding in the Defensive Portfolio, reported third quarter earnings and revenue that beat analysts’ forecasts as customers spent more on home improvement projects. Strong demand is carrying over into the next quarter as the retailer readies for the holiday season. Home Depot executives told analysts that same store sales growth for the first two weeks of the fiscal fourth quarter are slightly higher than third quarter levels.   Earnings per share were $3.92 versus $3.40 expected. Sales rose to $36.8 billion versus $35 billion expected, an increase of 9.8%.  Digital sales increased by 8% in the quarter.  Executives said sales accelerated in October compared with August and September. Home Depot’s same store sales climbed 6.1%, beating analyst estimates of 2.2%. The retailer faced tough comparisons with a year ago, when its same store sales were soaring, thanks to consumers taking on more do-it-yourself projects. A strong housing market is helping Home Depot as consumers invest more in their homes. The company is now focusing on the holiday season in the fourth quarter.  Similar to last year, Home Depot will focus on offering deals across a longer time period instead of just Black Friday.

Two of our retailers posted strong sales results on Wednesday, and stated that they have plenty in stock for the upcoming Black Friday sales. Retail chains Target and TJX said they were able to sidestep supply chain snarls to post strong sales in the most recent quarter and stock up with goods for Black Friday and the holiday season. Target said comparable sales rose 12.7% for the quarter ended October 30. The company’s operating profit margins declined as the discounter absorbed higher expenses. TJX, owner of off price chains TJ Maxx, Marshalls and HomeGoods, said comparable sales increased 14% from 2020, while net sales rose 24% from the previous year to $12.5 billion. Investors responded to each quite differently, with shares of Target declining around 5% while those of TJX rose around 6%. So far this year, though, Target shares have gained around 40% while those of TJX are relatively flat. Target’s revenue hit $25.7 billion in the quarter, up from $22.6 billion in the same period last year. Net earnings rose to $1.5 billion in the quarter up from $1 billion in the same quarter last year.  Adjusted earnings per share rose to $3.03 from $2.79 last year, beating expectations by 23 cents. For the latest quarter, TJX reported net income of $1 billion and earnings per share of $0.84, beating Wall Street’s expectations by 4 cents.

We are currently making a number of trades in the Core Portfolio. At our recent meeting, the Investment Committee decided to add a second position in both the Energy and Real Estate sectors to increase diversification. We sold our position in Ericsson to create a source of funds for this diversification. We had expected Ericsson to benefit from the 5G telecommunications build-out, but were disappointed by the lack of progress thus far. In the Energy sector, we are adding a position in Enbridge, a Canadian company which is a leader in oil pipelines and storage. The stock currently pays a dividend yielding 6.7%. In the Real Estate sector, we are adding a position in Simon Property Group, currently a holding the Defensive Portfolio. Simon Property Group is the premier upscale mall operator in the U.S., and the stock yields nearly 4%. We are also making a swap in the area of foreign banks, selling our position in HDFC Bank, the largest private bank in India and replacing it with Toronto Dominion bank, the second largest bank in Canada. HDFC Bank did not perform as we had expected, most likely due to headwinds from the coronavirus pandemic and its impact in India. Toronto Dominion Bank will benefit as the Canadian economy continues to rebound from the pandemic plunge, assisted by the economic resurgence of its neighbor to the South. In the Utilities sector, we will be selling our position in Dominion Energy and replacing it with American Electric Power, but will do so during the upcoming rebalancing. American Electric Power has a dividend yield about half a percent higher than Dominion Energy and a P/E ratio a couple of points lower, so we are adding value through this Utilities sector swap.

So, what does it all mean? The American consumer appears to be in great shape with plenty of savings and a strong job market, leading to strong retail sales in the month of October. We heard from many of your retailers such as Home Depot, Target and TJX this week, all posting strong sales results.   We also saw continuing improvement on the industrial side of the economy in terms of industrial production, manufacturing production and capacity utilization. While the pandemic continues to drive the investment narrative, we do appear to be making some headway in terms of repairing the damage done by the pandemic plunge. We will take a little break next week for Thanksgiving, which I hope will be a joyful one for you. So please, sit back, relax, have a great Thanksgiving holiday, and join us again in a couple of weeks for the Weekly Market Update.

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