Time to Put On Retail ETFs?


Holding to true seasonal tendencies, select retail stocks and the ETFs that track them have been performing well over the past month. Digging deeper into the retail space, investors may want to consider ETFs that are heavy on apparel makers, according to a research note published by S&P Capital IQ. The research firm apparel retailers have benefited from slumping cotton prices.

"Higher cotton prices and rising manufacturing costs drove retail prices up last fall (2011) and this spring," said S&P Capital IQ. "Fortunately, many apparel retailers found that their customers, while demanding value, were willing to stretch their budgets when the product was right. However, as price increases only partially offset higher apparel costs, most retailers felt a pinch on their merchandise margins."

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Regarding cotton prices, investors can track the iPath DJ-UBS Cotton TR Sub-Index ETN (NYSE:BAL) to keep an eye on that commodity and the impact it is having on apparel sellers. BAL has continued its fall from grace this year, slumping 16.4 percent. The ETN closed just over $47 on Wednesday. In March 2011, BAL traded above $110.

"With cotton prices declining this year, apparel costs are lower this fall," according to the S&P note. "However, many retailers have kept their prices flat, year-over-year, in order to regain lost margin. Some retailers have also used their cost savings to improve the quality of their apparel offerings. In our view, lower product costs will continue to be a tailwind for apparel retailers through next spring."

Investors should remember that not all retail ETFs are created and that some good funds can toil in obscurity. In its note, S&P Capital IQ highlighted two retail ETFs, including the Market Vectors Retail ETF (NYSE:RTH). S&P rates RTH Overweight.

Home to just 26 stocks, RTH allocates a mere 8.7 percent of its weight to pure play apparel retail names. However, those holdings include TJX Cos. and Limited Brands (NYSE:LTD), which S&P rates as four-star names. TJX is RTH's ninth-largest holding with a weight of nearly 4.3 percent.

An ETF with a far larger allocation to the apparel sub-sector is the PowerShares Retail Portfolio (NYSE:PMR). PMR, which has $52 million in assets under management, devotes offer a third of its weight to apparel names. Limited is the fund's second-largest holding at just over five percent while TJX is PMR's number six constituent at almost 4.7 percent. Other apparel names found in PMR include Gap (NYSE:GPS), Urban Outfitters (NASDAQ:URBN) and American Eagle (NYSE:AEO).

S&P rates PMR market weight. What separates PMR from a fund such as RTH is small-cap exposure. Approximately 42 percent of PMR's weight is devoted to small caps, both growth and value names. In addition to TJX, both ETFs count Wal-Mart (NYSE:WMT), Costco (NASDAQ:COST) and CVS Caremark (NYSE:CVS) among their holdings.

RTH is the cheaper fund with an annual expense ratio of 0.35 percent compared to 0.63 percent for PMR though the latter has outperformed the former by 140 basis points in the past month,

For more on retail ETFs, click here.

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