Retail needs some therapy as cautious consumers trade down

One clear laggard was Dollar General, which saw its stock shed about a third of its value following worse-than-expected results. The dollar store chain, whose core customer base makes less than $35,000 in household income a year, said sales were markedly weaker at the end of every month in its quarter ended Aug. 2, suggesting that its customers are less able to stretch their paychecks through the full month.

More than 60% of customers surveyed by Dollar General said they have had to sacrifice on purchasing basic necessities because of higher prices and most said they felt worse off financially than they did six months ago. Worryingly, roughly a quarter of those surveyed said they expect to miss a bill payment in the next six months.

This largely mirrors the Conference Board’s gauge of U.S. consumer confidence, which showed that confidence declined in August for consumers earning less than $25,000 a year even as overall confidence rose to a six-month high. While inflation has moderated for necessities such as groceries and energy, households are sitting on smaller savings balances and the job market has cooled lately.

The problem for dollar stores might be that middle- and higher-income consumers aren’t feeling pressured enough to trade down that far. As Truist Securities equity analyst Scot Ciccarelli wrote in a report: “We continue to believe the strong employment environment is preventing consumers from shifting en masse towards discount venues like Dollar General."

Instead, such consumers seem to be gravitating to big-box retailers like Walmart and Target, both of which reported healthier-than-expected comparable-sales growth in August. Both retailers have cut pricing on thousands of frequently bought items to draw shoppers, and Walmart has said its market share is growing among higher-income households.

At the same time, consumers are looking for deals on discretionary purchases—for example by roaming at discount retailers instead of department stores. Off-price retailers Burlington, T.J. Maxx owner TJX Companies and Ross Stores all reported better-than-expected same-store sales growth. 

Burlington said in its earnings call on Thursday that the economic pressure that low-income consumers have been feeling has “spread to other income bands," and that consumers are trading down to its stores. Its shares fell slightly following results, but largely because they had rallied so much before the earnings call.

Discounters are likely taking customers away from midprice department stores such as Macy’s, Kohl’s and Dillard’s, all of which reported declining comparable sales last quarter compared with a year earlier. Kohl’s, which caters to a middle-income consumer base, said its shoppers are “feeling the burden of the higher cost of living," and that basket sizes were smaller in its second quarter compared with a year earlier.

Upscale department store chain Nordstrom reported 0.9% comparable sales growth for its fiscal second quarter, with spending improving the most for higher-income consumers. Its discount chain, Nordstrom Rack, logged an even more impressive 4.1% growth.

While retailers across the board have been able to manage costs and protect their bottom lines, that might change in the coming quarters if companies start aggressively discounting. Kohl’s said it would be “even more promotional" in the holiday quarter than it has been, while Dollar General said it expects to discount more in the coming quarters. 

The one offset is that many of these retailers have slimmed down their inventories at a higher rate than sales have declined, implying that there won’t be a mountain of unsold products to clear next quarter.

Regardless, consumers have made it abundantly clear that they won’t be opening their wallets unless they see a good bargain.