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The general retail stocks have enjoyed a tremendous run in the year to date. Initially, they were marked higher as investors looked for recession recovery potential, they then started benefiting from better than anticipated trading, and most recently they've been boosted from upgrades to earnings forecasts, which reflect the better trading performance as well as favourable weather conditions and weak comparatives.
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The year has also been a rollercoaster ride for the British consumer. Confidence was at record lows as we left 2008. However, the swift culling of interest rates has provided a material boost to disposable incomes for those with mortgages and in work. So, while households have cut back in many areas to de-leverage and increase savings, retail sales have not suffered as badly as had been expected back at the start of 2009.
Unemployment is rising and continues to influence consumer behaviour, particularly with respect to major purchases. However, we believe that the sector can enjoy a period of relative stability unless disposable income faces further shocks, notably the risk of a rising tax burden and increased mortgage costs. If there is no major hindrance to disposable income in the second half of 2009, we expect the retailers to continue to enjoy a level of stability in trading volumes, although we'd expect year-on-year profits to be about 14 per cent across the sector following 2008's 20 per cent decline.
We anticipate that next year's general election will be swiftly followed by a rising tax burden for the nation, not just the highest earners. In addition, mortgage rates (in particularly those on two- to three-year tracker deals) will also rise independently of the base rate, something that is already beginning to occur. Without the benefit of credit markets providing housing equity withdrawal to bail out consumers, we suspect retail demand will come under renewed pressure next year in the face of falling disposable income.
After two to three months of blanket earning upgrades for retailers, we believe that underlying trading conditions are now broadly in keeping with market expectations. A combination of fewer upgrades, steady in-line performance and rising concerns for 2010 leaves the sector unlikely to make much more progress for the time being. Against this backdrop, we're focusing on those stocks still benefiting from market share gains from being the 'last man standing' or those still offering good upgrade potential.
John Stevenson is a retail analyst with KBC Peel Hunt
See also: Swings and retail roundabouts
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