Why These Grocery Stocks Were Up in March

What Happened

The stock market had a terrible time in March, but try telling that to grocery stocks. An investment in Sprouts Farmers Market (SFM 1.18%), Weis Markets (WMK +1.33%), Grocery Outlet Holdings (GO 1.50%), and Kroger (KR 0.20%) would have all beaten the market during the month.

According to data provided by S&P Global Market Intelligence, these stocks were up 16.3%, 11.8%, 8.5%, and 7.07%, respectively. The S&P 500, by contrast, was down big.

^SPX data by YCharts.

In bear markets, investors flock toward stocks perceived as safe. Right now, with the COVID-19 pandemic, no business is deemed more safe than those selling essential items like food and cleaning supplies. And these four grocery stocks perfectly fit that description.

So what

There are two things happening with grocery retail at the moment. First, shoppers are hoarding essential items as they prepare for a worst-case scenario with the coronavirus. After all, most U.S. states have stay-at-home orders, and there's no telling how long it could last. So it makes sense to stock up on what you'll need in a prolonged quarantine situation. 

However, grocery stores and other retailers have been forced to respond to hoarding. Kroger, Weis Markets, and Sprouts Farmers Market are all limiting the purchase of certain items to ensure enough stock for all customers. The most-talked-about hoarded item is toilet paper. In regards to TP and other items, it's not that the country is running out of supply -- the problem is that stock depletes faster than it can be replenished, even though there's plenty in the supply chain.

Quarantined consumers are cooking at home more. Image source: Getty Images.

Second, some restaurant spending is shifting to grocery because people are quarantined and cooking at home. Take food-service distribution company Sysco (SYY +0.24%), as an example. In a letter to shareholders regarding COVID-19, CEO Kevin Hourican notes that roughly two-thirds of Sysco's business comes from restaurants. However, while it continues to support ongoing restaurant operations, it's pivoting to help the grocery-store supply chain. 

These two factors combined means that grocery sales were booming in March. Kroger confirmed this by reporting a 30% comparable-store sales increase for the month. That's simply unheard of for a grocery store chain.

Sprouts Farmers Market and Weis Markets haven't reported their respective comp-store sales gains in March, but it's fair to assume their sales are surging, as well. Grocery Outlet Holdings' management simply said its comparable-sales increase for March is "significant."

Surging sales excite investors, especially when searching for safe investing havens. That's why these stocks handily beat the market in March.

Now what

While it's tempting to simply lump these four stocks together in a basket, each is a unique business and not all should be considered top-stock candidates to beat the market going forward. 

Consider that three of these grocery stocks reported full-year 2019 results during March, with Sprouts Farmers Market reporting in February. Each reported diverse results that need to be factored into an investment thesis.

Chart by author. Data from SEC filings. Payout ratio = percent of earnings per share paid out as dividends.

Furthermore, it's not reasonable to assume increased grocery sales from March will continue indefinitely. Once restaurants reopen, grocery spending should revert back to its normal ways as people resume eating out. And hoarded items will slowly get used up, reducing sales in the meantime.

In addition, March's comparable-sales gains come at a price. Grocery chains are hiring many new workers in order to keep up with demand. And many have modified store hours to allow for more detailed cleaning. In short, I wouldn't be surprised to see profit margins pressured in coming quarters due to increased labor costs.

I'm not convinced that any of these stocks are strong candidates to beat the market over the next five years. However, I am convinced the COVID-19 pandemic will accelerate some shifts in consumer behavior, and there's one trend to watch going forward: e-commerce and pickup are ripe for widespread adoption with grocery.

According to eMarketer, only 38% of U.S. shoppers bought groceries online in 2018. But that surged to 56% in 2019, with 37% of those surveyed saying they regularly shop for groceries online. This existing trend is likely accelerating due to the coronavirus, so it stands to reason that companies lacking strong e-commerce operations will lose market share going forward to the grocery chains that do.

If forced to buy a grocery stock, I'd pick one prioritizing e-commerce growth.