For many investors, shares in the retail sector hold about as much appeal as the prospect of a trip to the New Year sales. With consumer spending power still squeezed, and the industry facing a number of structural challenges, it’s easy to write off the sector as one to avoid.
But that doesn’t have to be the case, according to Investec Securities. It has just published an in-depth note in which the bank has picked out some interesting valuations and highlighted stocks with appeal for most investment styles.
In particular, it names JD Sports (JD.) (price target 475p), SuperGroup (SGP) (2,060p), boohoo (BOO) (270p) and B&M (BME) (435p) as growth stocks where there is upside risk to forecasts. The preferred value stories with attractive yields are Halfords (HFD) (400p/5.2% yield) and N Brown (BWNG) (380p/5.4%), while the “Steady Eddy compounders” are seen as Greggs (GRG) (1,450p) and Card Factory (CARD) (320p).
Investec believes there’s an increasing risk to being underweight in the sector, with retailers having traded at a 10% discount to the wider market in 2017. There’s also the prospect that trading conditions will improve as inflation drops back and potential real wage growth resumes in the second half of 2018.
Investec also notes that capital intensive, extensive store opening programmes are becoming less prevalent as retailers focus on investing in IT systems and their multi-channel/online capabilities.
This could mean cash generation and capital returns (dividend, special dividends and buybacks) become more important themes for investors in terms of improving Total Shareholder Returns (TSR).
Given the higher capital returns that shareholders could get from the sector, Investec looks at price/earnings (PE)/TSR rather than the more usual PE/growth (PEG) ratio. The sector currently trades on a PE/TSR of 1.4x.
Investec’s key picks tend to trade on lower PE/TSR multiples, with JD Sports on 1.3, SuperGroup on 1.0 and B&M on 0.9.
In B&M’s case, Investec believes the company has the financial headroom to return a further £500 million over the next three years — equivalent to about 12.5% of market cap — through special dividends.
Clothing retailers appear most at risk of disappointing investors. Even though the quoted players are focused on reducing promotional activity, Investec said they are not immune to the pressures of the wider market where there are a number of struggling players.
Marks & Spencer (MKS) is one of Investec’s ‘sells’ as it continues to struggle with the structural shift online and its mid-market position. It believes the shares are worth just 270p.
Investec said: “Clothing is far from fixed with sustainable like-for-like growth being key. Margins are likely to be held back by further investment in the proposition given the desire to return to M&S’ value/volume heritage.”
The only other ‘sell’ rating applies to B&Q owner Kingfisher (KGF) (268p) in order to reflect the execution risk behind its transformation strategy, and the fact that better value and greater certainty can be found elsewhere in the sector.
Investec has also changed its recommendations on a number of retail stocks. Primark owner AB Foods (ABF) has moved from ‘hold’ to ‘buy’ with an unchanged price target of 3,280p, while ASOS (ASC) has been upped from £60 to £63.
Greggs is a ‘buy’ at 1,450p, up from 1,350p, and Majestic Wine (WINE) is raised from 450p to 500p. WH Smith (SMWH) is downgraded to ‘hold’ on valuation grounds and Debenhams (DEB) is no longer a ‘sell’, despite facing continued structural challenges.
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.