Source: Bloomberg
Source: Bloomberg

It has been a confusing few weeks for followers of the retail sector. A mix of disappointing earnings (See Best Buy, J.C. Penney and Sears) along with pockets of luxury strength plus strongly trending auto sales has created a jumble. Let’s see if we can make some sense of the entire mess.

Let’s start with the tales of the American consumer’s demise. The early read from the National Retail Federation (You remember them) was for retail sales to drop 2.7 percent on Black Friday, and for gloomy holiday sales. Well, they reported this week that holiday sales rose 4.6 percent year-over-year (with the caveat that I have no clue what their methodology actually is). A nearly 5 percent increase is not exactly a gloomy sales season. This is consistent with Morgan Housel’s claim that everything is doing much better than a few years ago and no one is happy about.

The first accompanying chart seems to confirm that view. It is a 5-year look at the ratio between SPDR S&P Retail (XRT) and the S&P 500. When it is rising, the retail sector is doing better than the overall market (and vice versa). It shows that since the middle of 2008, consumer stocks have been driving higher on a relative basis. This is regardless of sentiment or flat wages, Obamacare or rising taxes. My conclusion is that Americans live in a consumer society, where shoppers love to shop. They tend to ignore most of the noise not related to their favorite pastime. Hence, we have had five years of retail sales doing pretty well, while the sector’s stocks rose even more than the overall market did.

That sounds pretty good -- except for discounts and promotional sales. Shoppers have become highly attuned to the game -- and yes, it is a nonsensical game. But woe to the retailer who ignores it. If you don’t believe me, ask Ron Johnson, fired from JC Penney as chief executive officer after he tried to implement more rational pricing. “Sorry, no thank you,” said shoppers. Price anchoring and behavioral economics are what drive sales, not rational thought. The smarter retailers have figured out exactly how consumers want to be manipulated, and they are all too happy to comply. Remind me one day to explain the three tiers of auto pricing for the exact same vehicle.

This past season, e-commerce growth rate more than doubled that of the overall retail sector. Digital revenue was up almost 10 percent ($95.7 billion). That likely played a big part in the mass-discounting across the board. Electronics and appliance merchants saw the dollar volume of sales fall 2.5 percent -- but I suspect most of that dollar sales decline was a function of ever-greater discounting.

We have seen a large run of retailers lowering profit forecasts this week. Best Buy, Macy's, Sears, JC Penney, Pier 1 Imports, Family Dollar -- all either dropped their profit forecast or announced outright misses. Some announced big layoffs, and their stocks rallied (Macys). Others seem utterly perplexed by the current environment, and saw their stocks get whacked (Best Buy). If we look at the same XRT/SPX ratio, but over a 1-year basis, we see a huge drop, as my second chart shows.

Source: Bloomberg
Source: Bloomberg

There is a small exception, and that is for luxury brands and retailers. Look at the sales growth and stock prices of Nordstroms, Tiffany and Apple. GM’s Cadillac division has been doing well, as have the three German luxury car makers, Mercedes, Audi and BMW. Lamborghini is pushing further into the luxe auto market Porsche continues to set sales records (up 15 percent). But I have bad news for you if you want a Ferrari or a Bentley: Sorry, we are sold out, but if you want to put your name on our waiting list, we probably can get you one. In a year.

Therein lay the challenge for the retailing sector: The high end can’t make the stuff fast enough, while the rest if the market is forced to choose between margins and market share. All the while, the internet has created a savvy consumer, who knows what consumer goods should (or at least do) cost. They have an app that allows them to buy just about anything from their phones.

Woe to the retailer who doesn’t match the price. Woe to the shareholder of retailers who do.