Discount retailers' stocks are set to pop as consumers flock to cheaper options amid high inflation, Goldman Sachs says

• Goldman Sachs sees shares of Ross and Burlington Stores each rising by at least 20% over the next 12 months.
• The discount retailers are "defensively positioned" in a tough retail environment marked by high inflation and cost pressures.

Retailers selling apparel are going through a tough period, in part as consumers try to cope with hot inflation, but Goldman Sachs said discounters Ross Stores and Burlington Stores shares should each jump by more than 20% over the next year.

The investment bank initiated coverage of the companies with buy ratings in a note published late Monday. Ross shares hold the potential to reach $102 in the coming 12 months and Burlington could hit $183 in that same timeframe.

The price targets envision a 24% rise in Ross stock and 24% advance for Burlington from Monday's close. The shares were down during Tuesday's session as part of a broader pullback in equities on concerns about tensions between the US and China over House Speaker Nancy Pelosi's visit to Taiwan.

"The outlook for the apparel sector continues to weaken, with rising industry inventory levels, pressures to consumer discretionary income, inflationary headwinds, and ongoing cost pressures that weigh on margins and returns," Goldman Sachs analyst Brooke Roach wrote in the research note.

US consumer prices in June spiked up to a 9.1% annual rate, the highest rate since November 1981.

Consumers have been shifting their spending back to services and promotional pressures are beginning to accelerate at a time that consumers are trying to deal with broad-based prices that weigh on spending by low-income consumers to a greater degree. But against this backdrop, the off-price sector is "defensively and attractively positioned," said Roach.

"We see opportunities for ROST to gain market share as it increasingly benefits from trade-down among its core lower-income consumer following initial demand shocks," said Goldman. Its exposure to low-income consumers will likely hurt near-term results, but "we believe [year over year] comp gaps will narrow going forward on the back of stronger inventory availability and execution."

It sees "strategic merit" in Burlington's turnaround efforts, evidenced by signs of improving brand momentum among consumers. Burlington has near-term execution risk stemming in part from higher inventory levels. However, "sequential improvement from here could result in greater market share capture, improved margin performance, and can drive meaningful rerating in shares," the bank said.

Burlington shares have dropped by nearly 50% during 2022 and Ross stock has fallen by about 30%.

Goldman had a neutral rating on TJX and projected a 12% upside in the stock to $70 over the next 12 months. TJX, whose stores include TJ Maxx and Marshalls, and HomeGoods, has strong consumer positioning and it should continue to deliver stronger comps compared with peers given its higher-income consumer offering.

"However, we believe this is well-understood by investors (and reflected in a premium valuation)," the bank said.