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There’s One Sector of Retail Where Tariffs Are Good for Business

Everyone hates tariffs—everyone, that is, except for the one sector within retail that stands to benefit from duties levied on apparel imports from China.

Wall Street analysis indicates that off-price retailers could stand to gain from the macro-economic retail landscape over the next few months, whether due to trade tariffs or even the outside chance of a recession.

According to UBS equity analyst Jay Sole, “Tariffs are likely causing significant order cancellations from many full-price retailers,” a move he said is potentially opening up opportunities for off-pricers to amass inventory at a very low cost. On top of that, there’s the very real possibility that tariffs could drive weak retailers to close doors, Sole noted.

One of the problems is that inventory has grown faster than sales for most of the last year, an indication that excesses are piling up, Sole said. That translates into retailers having more inventory than they needs for the third quarter, not to mention what they might still have accumulated from earlier in the year.

That’s the very scenario that provides the addictive “treasure hunt” aspect of an off-pricer’s business model because it’s able to purchase desirable inventory at low prices. “Off-pricers thrive on buying inventory at distressed prices,” Sole said, concluding that players in the sector “probably have inventory buying opportunities they haven’t seen” since about early 2016.

Tariffs exacerbate the inventory problem, Sole said. He explained that many companies believe they need to raise prices to offset the tariff cost increase, but that would result in unit demand declines, which in turn leads to companies cutting back on unit orders.

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“The problem is since lead times are long, a material amount of now unwanted inventory has already been produced,” Sole explained. And one way to dispose of unwanted inventory quickly is to unload the merchandise to off-price retailers, the analyst said.

Even though consumer shopping behavior is changing, shoppers still care more about value-for-money than convenience or low prices.

Sole said his firm’s Evidence Lab research shows that “79 percent of U.S. consumers believe ‘value-for-money’ is a reason to pick a retailer. Plus, consumers continue to believe off-price retailers offer the best value for money and this perception has not changed much year-over-year.”

Retailers within Sole’s coverage universe in the off-price sector include The TJX Stores Inc. and Burlington Stores Inc.

At a panel on “The Coming Downturn” on Wednesday hosted by the Retail Marketing Society at Arno Restaurant in Manhattan, the discussion centered on how a downturn might impact traditional and non-traditional retailers.

Carla Casella, managing director at J.P. Morgan, said the survivors–following the leveraged buyout booms in years past that have created high debt levels on balance sheets–will be firms with cash flow or assets that can be sold or spun off.

Sonia Lapinsky, managing director in the retail group at consultancy firm AlixPartners, said she’s seeing some interesting challenges among the retail set, despite a strong economy and consumer optimism. She believes off-price retailers such as Ross Stores and the TJX Cos., and speed-to-market competitors, would be the categories well suited to thrive in challenging conditions.

For now there doesn’t appear to be any indication of a recession in the near-term.

Jason DeSena Trennert, managing partner and chief investment strategist at Strategas Research Partners, explained the three typical recession triggers: higher inflation and the Federal Reserve killing expansion; a policy error either fiscal or regulatory, such as trade; and some exogenous event that can’t be predicted.

Even if the trade war is a drag on the economy, Trennert said, it wouldn’t be enough to push the consumer-focused U.S.  economy over the precipice and into a recession. He also expects the Trump administration to push for another tax cut. And because the country is headed into a period where the focus will be on the presidential election, the investment strategist believes a “symbolic” resolution to the trade battle between the U.S. and China is likely.

Trennert also suggested that perhaps the U.S. has “already won” the war as many firms that needed to get out of China have already fled.