Hopes for a supermarket recovery have been pushed back yet again while Wall Street rethinks earnings expectations as food costs rise, unemployment remains high and consumer spending stays fragile.

The shares of Supervalu Inc , Safeway Inc and Whole Foods Market Inc were among the stock market's biggest losers on Tuesday after investment firms cut ratings on them.

It's obvious we're still not in a robust economic environment, BMO Capital Markets analyst Karen Short said in a conference call with clients to discuss estimates and ratings revisions for the industry.

Tempered expectations for year-over-year profit growth are reasonable in an environment that is still quite choppy, she added.

Investors had hoped 2011 would usher in a big improvement in supermarket earnings, but such optimism is being dashed by costs, the jobless economic recovery and other factors, including a long-running price war and stiff competition from general merchandise retailers ranging from dollar stores to Wal-Mart Stores Inc .

While the U.S. economy is strong enough to help drive up the price of oil, coffee and wheat, it is still too weak to spur the kind of hiring that would meaningfully buoy consumer spending.

If traditional U.S. supermarkets are not able to raise prices to offset higher costs for food, their profits will take a hit, analysts said.

There has probably never been a tougher time for supermarkets, said Bill Bishop, chairman of retail consultancy Willard Bishop.

RATINGS REVISIONS

On Tuesday, Morgan Stanley advised investors to cut holdings in Supervalu and Safeway as rising food costs threaten to dent results, sending their shares down 6.3 percent and 3.8 percent, respectively.

The brokerage downgraded Supervalu and Safeway to underweight from equal weight.

Supervalu shares closed down 61 cents at $9 and Safeway fell 85 cents to $21.64, both on the New York Stock Exchange.

Supervalu's plan to cut prices to close the gap with rivals such as industry leader Kroger Co will hurt margins and lengthen the time it will take the company to improve profitability, Morgan Stanley analysts said in a client note.

The third-largest U.S. grocery chain is more leveraged than its rivals. Its same-store sales, a key gauge of retail health, have fallen as it struggled to retain market share.

Beyond that, some analysts have worried Supervalu's price cuts could spark another flare-up in the industry's profit-denting price war.

BMO Capital Markets also cut its stock rating on Safeway -- to market perform from outperform -- and reduced its 2011 earnings estimates on Safeway by 10 cents to $1.73.

BMO's prior earnings target for Safeway was too aggressive, Short said.

BMO reduced estimates for Kroger, but maintained its market perform rating, she added.

The brokerage lowered its rating on Whole Foods Market Incto market perform from outperform.

The upscale grocer's fundamentals remain strong, but after a year of strong earnings, it will be harder for it to surprise investors, Short said. We won't see (profit) beats of the magnitude we saw in 2010.

A day earlier, Clorox Co warned that the end of 2010 was a bit rough in the grocery aisle.

It said sales in the last three months of the year declined 3 percent to 4 percent, prompting the bleach and salad dressing maker to give a bleak fiscal second-quarter forecast.

Clorox has brighter expectations as 2011 begins, forecasting that parts of its business should perk up and lead to sales growth of 2 percent to 4 percent over the next six months.

Still, analysts including Caris & Co's Linda Bolton Weiser expressed concerns the company is spending more on promotions to drive sales, a tactic that can eat into profitability.

Whole Foods shares fell 3.4 percent to $49.04, while Kroger shares shed 1.4 percent to $21.70. Shares of Wal-Mart, which sells more groceries than any other U.S. retailer, were up 0.4 percent to $54.77.

(Reporting by Lisa Baertlein; additional reporting by Jessica Wohl in Chicago and NR Sethuraman in Bangalore; editing by Don Sebastian, Tim Dobbyn and Andre Grenon)

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