Fitch expects 2012 holiday retail sales to grow between 3% and 4% versus 5.6% in 2011 despite a strong seasonal start. Total spending increased 13% during the Thanksgiving weekend, according to a survey conducted by the National Retail Federation (NRF). Fitch believes the aftermath of super storm Sandy could dampen consumer spending somewhat in the Northeast and Mid-Atlantic states. In addition, sales could experience a modest negative impact as a result of uncertainty related to the unresolved fiscal cliff issue and the broader economy.

Intense promotional activity will likely be the key driver for consumer traffic given a continued weak recovery in consumer spending and an ongoing focus on value. Gasoline prices remain elevated in the high $3 per gallon range nationally, and real earnings have been flat to down 1% since 2010. Both will likely hurt discretionary spending, particularly at the lower income household level. As a result, Fitch expects the bifurcation in consumer spending between high and low income households will continue.

Gross margins are expected to be flat to slightly down for most retailers. Promotions this holiday season will be significant in areas such as consumer electronics and toys, as traditional pure play retailers such as Best Buy and Toys "R" Us, Inc. (TOYS) try to fend off competition from both discount and online retailers. Strategies include offering price matches on certain or all items available in stores. Whether this will ultimately drive increased volume remains uncertain given the challenge in changing price perception for commoditized products.

Gross margins for apparel-related retailers are likely to improve moderately, particularly for those hit with high cotton costs last year such as The Gap, Inc. (Gap), The Gymboree Corporation (Gymboree), Hanesbrands Inc., and Levi Strauss & Co (Levi). Prudent inventory management will remain a key driver to realizing normalized gross margins. Underlying improvements from lower product costs and strong inventory control are likely to be offset by increasing promotional pressure as retailers invest both in pricing and the online channel to drive traffic. Fitch believes J.C. Penney and Best Buy will continue to see significant sales and gross-margin deterioration. In addition, Saks has moderated its fourth-quarter 2012 comparable store sales expectation to flat given the significant impact of super storm Sandy on many of its stores. Therefore, Saks' fourth-quarter EBITDA is expected to be flat year over year, but liquidity should remain strong.