Don't Buy These Retail Stocks

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There's more and more evidence that investors are starting to question the recent rally; share prices of many beleaguered companies have been soaring. It's a good time to remember to be careful where you invest, and to go for quality, not the illusion of "cheapness" that accompanies riskier stocks.

A recent Bloomberg commentary from John Dorfman specified four stocks he believes have zoomed upward too quickly: Amazon.com (Nasdaq: AMZN), Starbucks (Nasdaq: SBUX), Sears Holdings (Nasdaq: SHLD), and Whole Foods Market (Nasdaq: WFMI). He pointed out that many American consumers are still struggling under a monumental amount of debt, and it's going to take time for them to deleverage.

Dorfman makes some excellent points, but investors need to bear in mind that many retail stocks that appear "cheaper" than the stocks above are arguably far more dangerous (although I am super bearish on Sears).

Just don't do it
There's no shortage of retail and consumer-facing stocks that appear to have surged outrageously, even though true signs of life in their core businesses seem few and far between. Here are a few that investors should avoid:

Company	Stock Appreciation (6 months)	Loss per Share (LTM)	Revenue Growth (LTM)	Past 5-Year Growth (Per Annum)
Ruby Tuesday	289.2%	($0.36)	(7.5%)	(25%)
Chico's (NYSE: CHS)	144.3%	($0.10)	(5.2%)	(30%)
Borders Group (NYSE: BGP)	373.5%	($3.99)	(9.8%)	(64%)
Talbots (NYSE: TLB)	146.1%	($10.85)	(10.5%)	(29%)

*All data from MSN Money, Yahoo! Finance, and Capital IQ, a division of Standard & Poor's as of June 16, 2009.

As you can see, other than their stock prices, there's a lot of downward trajectory here. Of course, as investors, we try to look forward, but the ugly past five-year growth trend indicates they were struggling even when times were good. Retail is never a very easy business, but right now it's harder than ever. It seems to me that a little bit too much is hinged on hope as investors bid the prices of these unprofitable firms up.

Amazon, Starbucks, Whole Foods, and Sears may have gotten ahead of themselves in the market's recent rally -- but with the possible exception of Sears, I'd argue these names haven't had the kind of brand tarnishing that years of flagging business can do to a company.

Meanwhile, Amazon is a true outlier: It actually reported a 33.7% increase in net income and a whopping 24.9% increase in revenue in the last 12 months, so at least there's some reason for investors' bullishness, even if it may be a bit too overdone at the moment.

Granted, Amazon's price-to-earnings ratio of 53 sounds like a darn hefty premium for a stock that faces plenty of recessionary challenges. I'd prefer a cheaper price, even though this is a quality company that I'd argue is one to hold for the long, long haul.

Exercise caution on your shopping excursion
The current economic situation is serious, and it's true that consumers have a lot to worry about. That will make it very difficult for many retail companies. 

Still, investors shouldn't ignore the retail sector, but should exercise caution. In other words, just because a stock has been beaten down into penny stock territory doesn't mean it's cheap. Plenty of retailers are simply too dangerous right now.

For related Foolishness, see the following:

• Have a look at 3 bargain stocks for this market
• What consumer stocks should you buy today?
• Is this the death of luxury?