Richard Buxton, Head of UK Equities at Schroders believes that for the patient investor, there will be great opportunities on the High Street in the coming years
“Jane Norman and Habitat have joined the growing list of UK retailers going into administration. HMV has sold its Canadian operations and is selling Waterstone’s to reduce its debts against a background of collapsing sales. Carpetright has announced that against the backdrop not only of weak demand, but also of growing internet usage (even for researching the purchase of carpets) they need to rethink the number of stores from which they operate. Marks & Spencer has started its summer sale early.
“Clearly all is not well on the High Street. After a boost to clothing sales from the early summer sunshine in April, trade has slowed through May and the return of rain in June has accelerated the decline. Erratic shopping patterns over a late Easter and the Royal Wedding bank holiday can no longer disguise the return of a very subdued consumer. It is tough out there.
“In fairness, 2011 was always going to be an extremely challenging year for the consumer and retailers. The VAT increase, rising direct taxes and the annualisation of the benefit of lower mortgage rates were going to be big headwinds. The strength of oil prices boosted petrol prices to create another vicious squeeze on incomes available for discretionary spending, on top of rising food prices. Public sector job uncertainty has increased, with the immediate post-election hiatus moving on to genuine notification of the potential for redundancies.
“Moreover, part of the UK economy’s growth rate over the last decade leading up to the financial crisis can be attributed to the growth in both private and public sector debt. Clearly, not only has this stimulus to growth disappeared; it has gone into reverse. So long as the Government is trying to reduce its expenditure (or, at the very least, curb the growth in its expenditure) and so long as the banks are having to reduce the size of their balance sheets, then the private sector is going to be borrowing less, saving more and spending less.
“As this is a multi-year process, we face a subdued consumer environment for several years to come. Against this background, without doubt more retailers will go under and more will reduce their size.
“However, it is also likely that the current squeeze on consumers is about as bad as it is likely to get. VAT is not going up again. Further substantial tax increases are unlikely. Unless one believes – which we do not – that oil prices are inexorably heading up and up, then the worst of the petrol price rise is behind us.
“This is probably the moment of maximum uncertainty regarding public sector jobs, as substantially higher numbers of workers are put ‘at risk’ or ‘under consultation’ regarding their future jobs than are likely to be the final number actually made redundant. Any rises in UK interest rates are a long way off and interest rates will remain negative in real, inflation-adjusted terms for the foreseeable future.
“Meanwhile, the quoted corporate sector in the UK is in good health, with restored balance sheets and healthy cashflows. Slowly but surely they are beginning to put some of that cash to work in increased investment, advertising, marketing and hiring. The private sector labour market – substantially bigger than the public sector – continues to hire. New business formation is running at a steady pace, despite the difficulties of obtaining credit. The private sector should be able to absorb the public sector job losses over time, albeit in an uneven fashion.
“If as a UK retailer you have a strong balance sheet, experienced and cautious management and a sustainable franchise, then you will survive the current tough times. Eventually, as the economy emerges from its current straightjacket, you will benefit from the reduction in capacity as others around you fail or shrink. It will be a long and difficult road, but current share valuations offer considerable protection against the shorter-term trading risks. For the patient investor, there will be great opportunities on the High Street in the coming years."
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