How to Play Minimum Wage Increases

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A minimum wage increase may boost revenues for some of America's most recognized retail companies if the democrats decide to up the minimum wage to $7.25 from $5.15. This increase would provide the average American with more discretionary income to spend on items such as clothes and electronics.

To realize the effect of additional income on retail spending, just look at the $8.9 billion Americans spent on Black Friday, mostly due to the recent decline in energy costs.

Although, investors should not expect every retailer to experience large revenues because each and every retailer provides goods for a particular niche market. In other words, a wage rise wouldn't effect The Sharper Image's top line because customers who earn $15,000 to $30,000 are not in the pricey retailer's target market.

Mainly companies who provide items for the poorest Americans should see an increase in average spending per customer due to a wage raise. Wal-Mart (WMT), Family Dollar Stores (FDO), and Target (TGT) all offer low income Americans the products they desire at affordable prices.

We should expect to see better margins from discount retailers because these companies can produce a range of higher quality products now that consumers earn better wages. Extra income changes the consumer complex altogether. Usually the more money a person earns, the more they consume or spend. Once the retailers realize this unique complex, discount retail stores will begin offering different levels of quality for the popular, most sought after products.

What happens when consumers spend more money on comparable products in the same store?

Margins improve, and now the large retailers benefit even more from economies of scale, which causes cost of goods to fall as production of goods increases. It's a win-win situation for both big business and the consumer – more money at the consumer's disposal, which in turn reaps larger profits for the retail stores.

When searching for catalyst-driven stock plays, investors should note that the best returns will come from retail stocks whose value has yet to be discovered.

Wal-Mart is too big and heavily traded to provide substantial gains from a wage increase. In fact, it could be argued that higher wages allow current customers to shop elsewhere at a more classy retailer.

A smaller discount retailer like Target could be a good buy if investors complete all the stock homework and purchase the shares at a premium.

Family Dollar Stores doesn't seem like a strong stock either, especially when investors consider how much work must be invested into a very weak brand name. Family Dollar has a reputation for operating dirty, dismal stores in low-income communities. They don't have the infrastructure or the working capital (freed up cash and assets) to rebuild their domestic businesses.

When large economic changes occur, it's best to watch the game from the sidelines until we know exactly what's going on. There's no reason to enter the market with a bit of uncertainly on a pure speculative stock move, only to get burned if your investment goes sour.

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