In what appears to be a downgrade based mostly on a macro call for economic recovery, Goldman Sachs downgraded Wal-Mart stores today from “buy” to “neutral” and lowered the price target on the stock to $56 from $58. While I have not been able to locate the full text of Goldman’s report online, the Wall Street Journal published a couple of excerpts which I have referenced in this article.
Goldman Sachs is advising clients to shift to retailers that sell products that are more discretionary in nature suggesting that economic growth may return in the second half and implicitly suggesting that consumers will return to old habits. Here is an excerpt from the Goldman Sachs report courtesy of The Wall Street Journal:
“We expect more discretionary retailers to display significantly greater relative EPS momentum vs. Wal-Mart into 4Q2009 as the former lap easy year-ago margin comparisons. As this fundamental performance gap closes, we believe investors will look to rotate into less staple-like names to take advantage of a recovering retail sector. This could cause WMT’s valuation to stall in the near term, thereby stymieing relative stock performance.”
It is worth noting that this logic does not discuss Wal-Mart’s intrinsic value or long term growth prospects but instead fixates on short term factors such as earnings momentum and year over year comparisons. Unfortunately, this type of thinking is par for the course on Wall Street and should be disregarded by investors seeking to build wealth over the long term.
Wal-Mart stock has stagnated for over a decade as the valuation assigned by the market has compressed while earnings have steadily marched ahead, as discussed in an article posted on this site in April. In retrospect, it is clear that the stock market assigned a very rich valuation to Wal-Mart ten years ago. The open question is whether the current valuation, which is close to a record low for Wal-Mart, can be justified based on growth prospects going forward. The only question that investors should ask is whether today’s price is at a significant discount to a conservative calculation of intrinsic value, not whether EPS momentum will continue next quarter or how year over year comparisons may appear.
Although obviously anecdotal in nature, I have seen firsthand evidence of trends that many others have written about in recent months related to the growing trend toward “thrift” in America. Wal-Mart’s parking lots appear as full as ever and more expensive cars have been making an appearance as well. Whether these more affluent shoppers will retreat into old habits once the economy turns around is an open question. However, given that the current economic dislocation is the most severe since the Great Depression, it seems doubtful that thrift will be out of fashion anytime soon.
Most of us know older relatives who grew up during the 1930s and retained their “cheap” habits throughout their lives. History does not ever repeat exactly, but the current open economic wounds afflicting millions of Americans will not just disappear once the recession ends. They will remain as scars for a long time to come – reminders of the fact that thrift simply makes sense. Wal-Mart is uniquely positioned to capitalize on this trend.
Disclosure: The author owns shares of Wal-Mart Stores.