Can Earnings Kohl's, Macy's, and J.C. Penney Boost the Retail Sector?

              

The retail sector has proven to be an interesting pocket of strength recently, as many expect this group to be hit hard by the slowdown in the economy. However, the S&P Retail Index (RLX) has added more than 3% since the start of the year, while the broad-market S&P 500 Index (SPX) has dropped 4% and the Dow Jones Industrial Average (DJIA) has lost 2% since the beginning of 2008. During the week of May 12, the retail sector steps up to the plate and delivers a spate of earnings reports. Some of the companies posting their results include Kohl's, Fossil, TJX Companies, J.C. Penney, Macy's, Urban Outfitters, and Abercrombie & Fitch.

In this article, I will examine Kohl's, Macy's, and J.C. Penney to see in investor sentiment matches up with the stock's technical performance. If you would like to know more about some valuable option-trading strategies than can be used to take advantage of a stock's sharp earnings-related move, please read Earnings Season: 3 Option Strategies You Need to Know.

J.C. Penney (JCP)

J. C. Penney (JCP) is one of the largest department store, catalog, and e-commerce retailers in the U.S. In 2004 J. C. Penney Company sold its Eckerd drugstores chain to The Jean Coutu Group and CVS for $4.5 billion in cash. The retailer runs more than 1,000 JCPenney department stores throughout the U.S. and Puerto Rico. The firm is expected to report earnings on Thursday, May 15, with analysts forecasting a profit of 50 cents per share. This estimate is down 51.9% from the company's year-ago profit of $1.04 per share.

Technically speaking, the security has broken out above its 10-week and 20-week moving averages. However, my concern is that this breakout proves to be a fake-out similar to one we say in February. At that time, the stock broke above resistance at its intermediate-term trendlines, but was halted by resistance at the 50 level.

Even if the security breaks through its weekly trendlines, the 50 level stands as a stiff barrier. This round-number level is home to the stock's 10-month moving average, which JCP has not closed a month above since May 2007.

From a sentiment perspective, options players are extremely optimistic when it comes to JCP. The Schaeffer's put/call open interest ratio (SOIR) stands at 0.51, as call open interest nearly doubles put open interest among near-term options. This reading is also lower than 82% of all those taken during the past 52 weeks. In other words, short-term options speculators have been more optimistically aligned toward JCP only 18% of the time during the past year.

However, not everyone is quite so optimistic. Wall Street has given the retailer 4 "buy" ratings and 5 "holds." This alignment leaves the door open for upgrades and downgrades following the company's earnings report. Yet, one plus in the stock's column comes from short sellers. Roughly 7.5% of the company's float has been sold short. A positive earnings report could send many of these bears scrambling for cover as their buy back their short positions in an effort to lock in their profits.

Traders should keep a close watch on JCP's option trading as the company's earnings report approaches. A sharp drop in the stock's SOIR could indicate that speculators are loading up on calls ahead of the event. Also, traders should watch the 50 level for a potential rejection, ending the stock's newly formed uptrend.

Kohl's (KSS)

Kohl's (KSS) operates approximately 950 discount department stores in 47 states. Moderately priced name-brand and private-label apparel, shoes, accessories, and housewares are sold through centrally located cash registers, designed to expedite checkout and keep staff costs down. Kohl's competes with discount and mid-level department stores. The retailer will posted its earnings on Thursday, May 15, with analysts predicting a profit of 42 cents per share. This estimate is down 34% from the company's earnings of 64 cents per share for the same period a year ago.

The shares of KSS have recently broken above resistance at the 48 level – an area that capped the security from mid-December through late April. This region is now serving as support. Furthermore, the stock has climbed above its 10-week and 20-week moving average, pulling them into a bullish cross. This technical formation could signal a shift in the stock's intermediate-term trend from downward to upward.

From a longer-term perspective, the equity is battling resistance at the 50 level, which is home to the security's declining 10-month moving average. KSS has not closed a month above this trendline since June 2007.

Meanwhile, sentiment toward the retailer is extremely pessimistic. The SOIR for KSS stands at 2.03, as put open interest more than doubles call open interest among options that expire in less than 3 months. What's more, this reading is higher than all but 1% of those taken during the past 52 weeks.

This preference for puts can be seen in the open interest configuration for KSS. The May 40 put is the site of peak put open interest with more than 10,800 contracts, while the May 45 put has open interest of 7,500 contracts. On the other hand, peak call open interest lies at the in-the-money 45 strike with fewer than 6,900 contracts. This lack of out-of-the-money call open interest indicates that investors aren't expecting the security to rally during the near term.

Short sellers have also placed some heavy bets against the shares. Roughly 20 million KSS shares have been sold short, representing 8.5% of the company's total float. A positive earnings report from KSS could send these pessimism scrambling for the exits, creating a fresh wave of buying pressure.

Macy's (M)

Cincinnati-based Macy's is the nation's number-1 department store chain. The retailer operates about 850 stores in 45 states and rings up more than $26 billion in annual sales. The retail giant operates 4 regional divisions: Macy's East, Macy's Central, Macy's Florida, and Macy's West, and the upscale Bloomingdale's chain. The firm is slated to report earnings before the market opens on Wednesday, May 14. Analysts are currently predicting a loss of 2 cents per share compared to the firm's profit of 16 cents per share for the same period a year ago.

From a technical perspective, the stock is struggling with resistance in the 26.50-27 region. This area has capped the equity since the beginning of February. However, it is encouraging to see that the security has closed 2 consecutive weeks above its 10-week and 20-week moving averages – a feat not accomplished since April 2007. This could be a sign that the stock is finally breaking out of its long-term downtrend.

The next layer of resistance resides at the 28 level – home to the stock's 10-month trendline. This moving average has guided the shares lower since April 2007.

Sentiment is somewhat mixed toward the retailer. Short sellers have avoided the stock, as less than 4% of the float has been sold short. However, options players are betting on a pullback. The SOIR for M stands at 1.02, as put open interest narrowly outnumbers call open interest. This reading is higher than 87% of all those taken during the past 52 weeks. Simply put, short-term speculators have been more pessimistically aligned just 13% of time during the past 12 months.

Meanwhile, Wall Street has a slightly bearish outlook for the shares. Zacks reports that M has received 4 "strong buys," 5 "holds," and 1 "strong sell."

While there is ample pessimism on the shares that could unwind in the form of buying pressure should the company report stronger-than-expected earnings, I'm not yet convinced that the stock has pulled out of its downtrend. A solid close above the 28 level would help indicate that the shares are finally on the mend.

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