Here’s what’s behind retail sector bloodbath

Buying shares in the major retailers has been a largely unprofitable business in 2017 and little this week suggests a major swing in sentiment is imminent. Consumers already tightening the purse strings after last year’s Brexit vote now see wages growth lagging inflation and an interest rate rise adding to mortgage bills.

Weak retail sales figures for October and a warning that toy sales are down this year provide further evidence of possible trouble in store. John Lewis has admitted life is tough, Primark has given owner AB Foods (ABF) a bloody nose this week and, despite a better than expected result, sales at M&S's (MKS) clothing division still fell in the second quarter.

Brexit has weakened sterling which increases costs and damages sector profits. As always, Christmas will be make or break for many big-name retailers this year.

Omens are not good if reaction to the latest batch of retail sector results is anything to go by, with Burberry (BRBY), Supergroup (SGP) and Argos-owner Sainsbury's (SBRY) all sold off sharply on Thursday. Neither Burberry or Supergroup shares could be described as cheap, but at least Supergroup can justify its above average valuation with forecast double-digit earnings for years to come.

It was crucial Burberry’s new chief executive Marco Gobbetti got off to a good start after chief creative officer Christopher Bailey announced he’ll be off next year. Unfortunately, the market appears unimpressed with Gobbetti’s vision of Burberry’s strategy, and his first address to the market since taking over has failed to prevent the loss of big share price gains made since September.

Gobbetti’s aim to generate high-single digit revenue growth plus ‘meaningful’ operating margin expansion is ambitious, yes, but the big benefits don’t come through until 2021.

Within Burberry’s half-year results, clever management of costs and spending cuts were behind a 17% increase in underlying operating profit for the half-year. Add in a £15 million currency benefit and it was 28%, with only a marginal upgrade to full-year profit forecasts.

Despite plenty of scepticism, the acquisition of Argos has worked well for Sainsbury’s and the catalogue company has grown online sales by 10%. Group full-year profit will still meet forecasts, but first half profits are down and sales growth has slowed. Argos results are not impressive enough to override a generally weaker retail market and drag Sainsbury’s shares far from all-time lows.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

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