A THE OLD SAYING GOES, Christmas is coming (eventually), the retail goose is getting fat, and millions of Americans are pumping dollars into the cash registers. At the same time, thousands of investors, perhaps with visions of the plumpness of this retail goose flashing dollar signs, seem willing to pay 20 to 30 times latest 12 months earnings for the shares of prominent general merchandise retailers, such as Sears Roebuck, J. C. Penney, Federated Department Stores, and May Department Stores. However, over the next several years, the financial pickings for investors in these shares may be somewhat leaner than current expectations. For one thing, the earnings that are so opulently appraised today may prove to be top of the cycle earnings and vulnerable to retrenchment in the next several years. To be more specific, between 1954 and 1964, general merchandise retail spending grew at a 4.5% annual rate. However, during this period there were three exceptionally strong years (1955 when volume expanded 9.6%, 1959 when it was up 8%, and 1964 when sales soared 9.9%), and following these unusual years, in the past, volume has corrected back to the long-term trend with an unusually bad year. After the strong 1959 showing, for example, sales expanded only 2.4% in 1960, and only 2% in 1961. In the earlier cycle, there was a delayed reaction, with the 9.6% advance of 1955 followed by a solid 5.5% jump in 1956. But then volume rose only 2.9% in 1957, and the gain in 1958 was a miniscule 0.9%. The point of all this is that retail sales (and its component general merchandise sales) are a function of personal disposable income, and 1964 was obviously a very exceptional retail year with volume growth well above the long-term trend. Not only were economic factors uncommonly favorable in 1964, but the weather was also extremely good, with the mix between hot and cold blended so as to stimulate maximum seasonal buying. 1965 may well prove to be another year of above average growth for general merchandise sales, but most experts do not foresee the estimated 8 % gain of the first six months being sustained throughout the year. In fact, already there is some apprehension because the recent cut in excise taxes has not stimulated spending to any degree. The Investment Research Department of a leading New York City bank recently projected a 6% gain in general merchandise sales for the full year, which suggests a definite slackening of the first half growth during the second six months of the year. A growth of 6% would make 1965 a good but not an exceptional year; however, the really salient point is that a 9.9% year followed by a 6% year implies that a slowdown in 1966, possibly extending into 1967, is a logical assumption. In fact, since 1964 and 1965 were both well above the long-term historical growth trend of about 4.5% annually, the slowdown or correction could be unusually pronounced and prolonged. The implications of a decline in the growth rate of general merchandise sales on retail profitability is considerable. Past results indicate conclusively that profitability is a function of the rate of change in volume rather than a function of the level of volume. For example, the pre-tax margin of 10 major general merchandise retailers declined from 6.6% in 1955 to 6.1 % in 1958, and from 6.8% in 1959 to 6.2% in 1960. As a result, although they posted gains in volume from 1959 to 1960, Sears reported a 2.5% decline in earnings, Penney showed a 14.5% drop, and Federated a 4.5% fall. In 1964 the pre-tax margin of the 10 retailers mentioned before reached a high for the last decade of 7.2%, but it is difficult to foresee further gains of material importance in profitability. This cyclical sensitivity of retail profitability reflects the operating leverage inherent in a relatively large amount of fixed costs (i.e., leases, lighting, overhead, interest, etc.) and the considerable costs, employment, and stock levels that have to be budgeted in advance. Thus the expectations of retailers as reflected in their budgets can have an important impact on profits depending on their rightness or wrongness. In fact, the somewhat disappointing first quarter earnings results for several major retailers in the face of solid gains in volume was partially a function of sales being slightly below budget with a disproportionate effect on earnings. For example, in the first half of 1965, Penney's sales Barton M. Biggs is a partner of Fairfield Partners, a private investment fund. He received his B.A. from Yale University and an M.B.A. with distinction from New York University. He was formerly a vice president in institutional research at E. F. Hutton & Co.