FTSE 350 Review: Be selective when buying retail stocks

Last month's news that UK retail sales volumes had fallen by 3.2 per cent in December, the worst monthly fall since the pandemic-hit January 2021, was an important reminder that retailers still face many challenges despite softening inflation and rising real wages supporting consumption.

Part of the story was that consumers got Christmas shopping done early because of the timing of Black Friday sales. But cost-of-living pressures are continuing to cause problems for the sector, with factors such as elevated energy bills and higher housing costs playing an understandable part. 

Currys (CURY) noted in a recent update that a record 21 per cent of customers are using its credit scheme to fund purchases as purse strings remain tight. The struggling electrical retailer may have guided for a consensus-beating full-year profit, but this was driven by cost savings rather than robust Christmas trading, as it highlighted weaker trends for its TV and computer sales. 

For retailers actually posting top-line uplifts, meanwhile, festive trading updates still indicated slowing growth levels. While value discounter B&M European Value Retail (BME) and homeware retailer Dunelm (DNLM) both made positive noises on transaction volumes, quarterly revenue growth rates over the Christmas period were lower than the year-to-date positions. 

The luxury end of the market is also now exposed to weaker demand, as seen in the slowdown reported by the high-end clothing companies. Watches of Switzerland (WOSG) spooked investors when it cut revenue and margin guidance after suffering a “volatile trading performance” over the Christmas period. The luxury watch retailer's relationship with Rolex is under the microscope again, meaning a cloudy outlook despite its reiteration of long-term targets. 

In a challenging trading environment, it helps to have a resilient customer base that is devoted to your product range. Enter fantasy miniature maker Games Workshop (GAW), which reported record revenue, profit and dividends in its latest half-year results. It made the long-awaited confirmation in December that it had inked a deal with Amazon (US:AMZN) for the potential creation of Warhammer films and TV shows, which could ultimately provide a material boost to revenue.

A particular sub-sector to watch this year is the retail travel space, as the ongoing recovery in demand for flights and train journeys boosts some London-listed players. Global air travel is just about back to 2019 levels, while UK passenger rail numbers were at 89 per cent of pre-pandemic levels in the third quarter, according to latest figures from the Office of Rail and Road. 

We turned bullish on Trainline (TRN) in the autumn, and think the online ticketing app's dominant market position in the UK and opportunities in Europe should take it from strength to strength. Crucially, a key regulatory risk has been removed by the government’s confirmation that it won't push ahead with the creation of a planned centralised ticketing retailer. 

WH Smith (SMWH), meanwhile, is now a travel-focused company with transatlantic ambitions. Travel contributes almost three-quarters of total revenue, and the company's rapid expansion in North America (it had more than 60 stores in the pipeline there at the latest count) presents a significant opportunity. 

Looking ahead, it doesn’t help the general outlook that the sector is about to be hit by a 9.8 per cent increase in the national living wage and a surge in business rates. Currys chief executive Alex Baldock complained on an analyst call that the government is forcing “inflationary cost pressures” on retailers. But while a variety of headwinds remain in play, there are clear opportunities for investors as some businesses focus on margin preservation and others are able to boost revenues.