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Understanding Food Stocks' Recent Rally

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Part 3
Understanding Food Stocks' Recent Rally PART 3 OF 3

Expected Tax Reform Benefits Drive Food Retail Stocks Higher

The recent retail rally

After a challenging 2017, retail food stocks had a great November and a good start to December. Kroger (KR), for instance, gained 25% in November and another 2.1% up to December 6. The grocery giant had plunged almost 40% in the first ten months of the year. While the company is still in the red, its YTD (year-to-date) losses were reduced to 23.5%.

The seven-company S&P 500 Food and Staples Retail Index has gained more than 10% over the last month, outperforming the S&P 500 Index (SPX) at +1.5%. In comparison, the Food and Staples Retail Index had lost 1.2% as of October, compared to a 15% gain in the S&P 500.

Expected Tax Reform Benefits Drive Food Retail Stocks Higher

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While a strong earnings season and better-than-expected holiday results have driven stock prices higher, some of the gains are also due to recent tax reforms.

The Senate voted in favor of Trump’s tax reforms last Friday. The US House of Representatives and Senate must now come up with a reconciled tax bill, which will then be sent to the President for signatures.

How will retail benefit from the new tax bill?

The new tax bill proposes to reduce the top corporate tax rate from 35% to just 22%. According to Credit Suisse, sectors that are “domestically oriented” and derive most of their earnings from the US end up paying the highest tax rates and will benefit most from the new tax bill.

Credit Suisse also pointed out that retail is at the top of the bundle and pays an effective tax rate of 35%. Kroger, for instance, paid an average effective tax rate of 33.6% over the last five fiscal years (between fiscal 2013 and fiscal 2017). Walmart’s (WMT) effective tax rate was around 31.6% over the same period.

The effective tax rate for S&P 500 (SPX) stocks is about 26.2%. So, if the bill is approved, the retail sector would be among the top beneficiaries.

Also, the benefit of lower taxes would be dual for retailers. While they would end up paying lower taxes, customers would have money in their pockets and end up spending more.

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