The US Federal Reserve has ­capitulated to market pressure and gone dovish (less likely to raise rates), and other central banks are cutting interest rates (some to below zero), but all the talk of slowing world growth is bypassing the ASX’s retail sector – which is looking stronger than many might have expected.
The buoyancy in retail cuts across almost every dimension of retail; Nick Scali (Furniture), ­JB Hi-Fi (Electronic Goods) Wesfarmers (Supermarkets), Harvey Norman Holdings (Household Goods and Computers), Breville Group (Household Appliances), Reject Shop (Consumer Appliance) and OrotonGroup (Fashion) have performed well.
Separately, department store group Myer and retail brands group Premier Investments (owner of the global brand Smiggle) have also delivered pleasing earnings results, upbeat earnings guidance and convincing strategy statements with growth plans.
Moreover, we must remember these results have been achieved despite the much-feared arrival of foreign competitors like Aldi, H&M, Zara, Sephora and others. Even Woolworths’ plight, largely the product of bad management, is far from irretrievable. It now has a newly appointed chief executive Brad Banducci and a new chairman in Gordon Cairns.
Indeed, corporate turnarounds at some retailers and successful existing strategies at others have multiplied the sector’s leverage to a supportive economy.
The debate about the Australian economy has focused too much on falling commodity prices and subdued capital expenditure plans, and not enough on the healthy consumer sector supported by housing wealth, low interest rates, growing employment and a falling household savings rate.
These positive effects have outweighed the drag on consumer confidence from financial market volatility. Over the year to February, total employment as measured by the ABS grew by 240,300 and the number of employed Australians rose slightly from 61.1 per cent of the population to 61.5 per cent.
What’s more, growth in the services sector, the largest employer in the economy, has quietly continued in the background. More jobs have been created in this sector than lost in the mining sector, which never employed more than a few hundred thousand people at its peak. From here the retail sector’s prospects depend on the same above factors but also the exchange rate, and this is where good stockpickers will make the most money.
An Australian dollar at US70c or below spells real trouble for retailers without extensive currency hedging, as the cost of imported inventory will rise more quickly than prices can go up to pass on the extra cost.
Nick Scali’s 100 per cent-hedged (six months out) inventory order book is one of the many reasons I like this company (see today’s Dividend Detective column), as six months of inventory cost certainty gives management enough time to raise prices to maintain margins. The international Premier group is also well hedged, but currency depreciation detracted materially from Myer’s result.
The current rebound in the Australian dollar is a boon for retailers with less hedging but, if sustained, will dampen employment in the services sectors responsible for much of the employment and retail spending growth over the past year.
One other very strong area is inbound tourism, which coupled with export education and tourist-facing retailing sectors all cheered the currency’s fall to lows of US69c last year.
The Australian dollar should trade around US70c on domestic economic fundamentals but there is no telling how long it could remain in the high 70s in a world where central banks compete desperately to engineer currency ­depreciations and Australia’s Reserve Bank and political class sit idly by, apparently all out of imagination and ideas to drive our dollar lower.
Jawboning the currency lower does not work anymore and more innovative approaches could yet be needed. On balance the retail stocks we like the most are Nick Scali, JB Hi-Fi, Wesfarmers and Woolworths, each of which is trading at a discount to or in line with our respective $4.90, $24.20, $41.70 and $23.30 valuations.
Written by David Walker. The following article was published in The Australian, 22 March 2016.
Disclosure: Clime owns NCK, WES, WOW on behalf of various mandates where it acts as an investment manager. David Walker owns shares to WOW.