Tread Lightly in Retail Sector

After some concerns regarding retail sales and consumer confidence in December 2005, recent economic data has exhibited some optimism as we progress along in 2006.

 The January Consumer Confidence number was strong, coming in at 106.3 versus the estimated 105. It was the second straight month in which the reading was over 100 and the strongest reading in over three years. The positive sentiment in consumers was confirmed when the January Retail Sales data (excluding auto) came in at a very strong 2.20 percent growth, well above the estimate of 0.8 percent. It was the largest jump since May 2004.

 The numbers are clearly supportive of some strength in the retail sector. The S&P Retail Index is currently in a minor downtrend, but reached its highest level in February to date. The index needs to see a strong upside break at 475 in order to break out.

 But, while the optimism is there, I still see several risk factors in the market that can quickly turn the optimism upside down. Lower oil prices and the warmer winter have helped. The March light crude on the NYMEX fell below $60 a barrel last Tuesday. Lower oil prices result in higher discretionary income, but I do not expect oil prices to falter. The underlying fundamentals remain relatively strong for oil. A pop in oil prices can again cut into the pocketbooks of consumers and impact their spending.

 Another big concern of mine is interest rates and where they are heading. Newly appointed Fed Chairman Ben Bernanke recently suggested that aggressive rate hikes might be required and this spooked the market. Higher financing costs cut into consumer spending and corporate profits, not something you want to see. Ben Bernanke will make his first report to Congress on Wednesday and Thursday. What he says will be carefully monitored by the market. Any mention of inflation or the potential need for aggressive rate increase could really put a damper on the market going forward.

 So, while there is some optimism in the retail sector, I do not advise jumping in as there remains plenty of uncertainty out there. Watch how the next few months play out.