Is it too late to buy the outperforming Woolworths share price and Coles share price?

It’s hard to get away from the Coles Group Ltd (ASX: COL) share price and Woolworths Group Ltd (ASX: WOW) when it comes to defensive businesses that benefit from COVID-19.

Grocery sales are booming due to the coronavirus lockdown but many may feel they’ve missed the boat.

The Coles share price jumped over 20% since the start of the year while the Woolworths and Metcash Limited (ASX: MTS) share prices have gained around 8% each.

In contrast, the S&P/ASX 200 Index (Index:^AXJO) lost 10% despite the big bounce from its March bear market low.

More room to climb

But I don’t think it’s too late to buy these stocks as we head into what is likely to be a nerve wrecking reporting season.

Stocks with profit upside and a relatively low level of earnings risks are in demand and will continue to command a market premium.

Supermarket stocks fit the bill and this isn’t the only reason to buy the sector.

Profit margin boost

The analysts at Macquarie Group Ltd (ASX: MQG) believe Woolies and Coles will enjoy fatter profit margins in the nearer-term, although this tailwind won’t last.

“We believe COL and WOW should have a tailwind to margins on the back of improved volumes over at least FY20 and FY21,” said the broker.

“However, we note that excess margins in supermarkets have consistently been lost to competition, inflation, regulation, staff costs or management follies.”

Excess profits to flow online

There’s another reason why the benefits from expanding margins won’t flow to shareholders. The broker noted that Woolies and Coles have underinvested in their online capabilities and will be using any extra profit they can get to play catch up.

This isn’t a bad thing, in my opinion. Having a strong online business will provide the two supermarket giants with a competitive edge over rivals like Aldi.

But despite the potential negatives, Macquarie has an “outperform” (meaning “buy”) recommendation on both stocks.

This is in part due to expectations that investors will rotate out of the consumer discretionary sector and into retailers that sell staple goods.

Better placed than other retailers

“We are cautious on the current level of consumer discretionary spending and believe a second wave of the virus, coupled with a gradual reduction in fiscal stimulus will see some spending divert from consumer durables into services,” explained Macquarie.

“This puts pressure on the discretionary space into FY21. We see more sustainability of earnings in the staples sector at the current point in the cycle.”

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Motley Fool contributor Brendon Lau owns shares of Woolworths Limited. Connect with me on Twitter @brenlau.

The Motley Fool Australia owns shares of COLESGROUP DEF SET and Woolworths Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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