Market Bulletin (17/01/2017)
The old saw that England is “a nation of shopkeepers” looked apt last week, as a slew of retail earnings figures showed shoppers taking High Street sales to new levels in the fourth quarter.
Among the risers was Marks & Spencer, which reported a 2.3% annualised rise in fourth-quarter sales for its clothing and home divisions, its best Christmas boost since 2011. The success reflects in part a shift in business strategy, and augurs well for a company increasingly focused on its supermarket offering.
“With a new CEO that understands retailing, big changes are being made, and its long-maligned General Merchandise division is beginning to regain share previously ceded to the likes of Next – this complements the well-regarded food division,” said Chris Reid of Majedie Asset Management. “The stock offers a very attractive valuation, on a yield of 5.7%, which is nearly covered by earnings, and with the asset backing of a mostly freehold estate. [Moreover,] in three years’ time it will be 75% food.”
Indeed, food retailers enjoyed a buoyant end to the year, even allowing for the season, as Tesco posted a 0.7% rise in sales and Morrisons reported its fourth consecutive quarter of sales growth. “The food retailers all enjoyed a good Christmas and at both Tesco and Morrisons the new management teams have done a good job of restoring competitiveness,” said Nick Purves of RWC Partners. “Like-for-like sales volume is arguably the most important metric at any retailer and, for both companies, volumes have been growing for 18 months now. Both have the potential to restore a good portion of the profitability that has been lost over the last three or four years … [leading] to further upside in the share price.”
Debenhams, ASOS and JD Sports joined Marks & Spencer in reporting impressive clothing sales for the quarter, reflecting much more than simply the usual yuletide upswing, although in some cases it was foreign earnings that delivered the profits boost.
“ASOS had a solid quarter as it is starting to reap some of the rewards of its investments in non-UK infrastructure, distribution and IT systems, offsetting modestly slower UK sales growth,” said Jim Hamel of Artisan Partners. “Part of the non-UK boost is attributable to currency – particularly… versus the Australian dollar and the Russian ruble. However, ASOS’s ability to reduce its delivery time in Russia and offer free returns in Australia are also positive catalysts. ASOS has an attractive growth runway ahead.”
The FTSE 100 struck another record high, gaining 1.8% over the course of the week, clocking a 14th successive day of gains; although some leading retail firms, John Lewis among them, warned that a weaker pound would put pressure on margins in 2017. Comfort came from Fitch, a leading financial ratings agency, which reported that all UK sectors would continue to prosper, even in the case of a hard Brexit.
The Fitch report resonated all the more in a week when the prime minister appeared to indicate that free access to the single market was unlikely post-Brexit. Sterling dipped further in response, and further still as Theresa May’s Brexit speech approached. Martin Wolf, a leading economics and finance commentator, wrote last week that “the single market option is dead” while TheCityUK, the City of London’s principal lobby group, announced it had given up fighting for access.
Meanwhile, the Institute for Fiscal Studies published a report showing that, in the UK, inheritance is becoming an increasingly important source of wealth for young people, in light of wage stagnation and the sharp rise in house prices over recent years. As a result of these factors, the amount of wealth held by elderly households has increased rapidly, making the need and potential for savings through estate planning all the greater.
Elsewhere in Europe, the broader economic trends were also heartening, as Germany last week announced that its economy had grown 1.9% in 2016, the country’s highest rate in five years. The public sector ran a significant budget surplus and the government was able to avoid new borrowing for a third successive year. The data boosted Angela Merkel’s chances of re-election in the autumn. The FTSEurofirst 300 rose 0.16%.
It was a good week for Volkswagen too, as the car company agreed to a $4.3 billion fine for emissions cheating in the US. The United States Environmental Protection Agency announced the next day that it was now investigating Fiat Chrysler for apparent emissions violations on 104,000 vehicles – VW may just be the beginning. But for Germany’s largest company, the fine was below expectations, and appeared to close the US chapter of the company’s ‘Dieselgate’ scandal, which first broke in September 2015.
“Volkswagen is now just below its pre-Dieselgate price, but we think it has further to run,” said Stuart Mitchell of S. W. Mitchell Capital. “In our investment analysis, we had made provisions for a far higher penalty in the US – investors are rightly relieved.”
A quick glance at the behaviour of the S&P 500 last week suggests a choppy few years may lie in wait after Donald Trump is inaugurated on 20 January. Stocks dipped dramatically after the president-elect’s first post-election press conference, in which he batted away accusations about underhand associations with Russia, and much else besides. Later in the same session, he took a swipe at drug prices, precipitating a price slide for pharmaceuticals in the US and abroad, including in Japan, where the Nikkei 225 finished the week down 0.86%. The S&P 500 ended down 0.09%, amid signs that the Trump rally may finally be abating. Nevertheless, given his distaste for ‘offshoring’, the president-elect would doubtless have been pleased to see Amazon announce the creation of 100,000 new jobs in the US over the coming 18 months.
A total of $41.5 billion was pulled out of US bond funds in the two months after Trump’s election, while almost $70 billion flowed into US equity funds in the period, according to figures released by Bank of America Merrill Lynch (BAML). Bill Gross (aka the ‘Bond King’) said that US Treasuries were not far off bear market territory. But yields have slipped since Christmas, and Goldman Sachs wrote last week that the ‘great rotation’ was now approaching its endpoint. Indeed, US bond funds last week saw their largest inflows in three months, according to BAML. The scale of these short-term flows suggests more than fundamentals may be at play.
“Much of what we saw in 2016 does not appear to be grounded in fundamentals,” said Neil Woodford of Woodford Investment Management. “In the long run, fundamentals are all that matter for share prices, but over shorter periods, they can be overtaken by other drivers, such as sentiment and momentum. That appears to have been the case in 2016 – market leadership has become increasingly concentrated in a handful of stocks, most of them commodity-related.”
Internationally, trade and geopolitical tensions were ratcheted up last week, as trade figures showed that Chinese investment in the EU in 2016 was four times investment in the opposite direction, and as both Donald Trump and Rex Tillerson, Trump’s nomination for Secretary of State, made strong criticisms of Chinese military and trade behaviour. Barack Obama, in one of his final actions, took a case to the World Trade Organization that criticises China for dumping aluminium products. For investors, the risk posed by trade tensions appears to be rising rapidly.
Artisan Partners, Majedie Asset Management, RWC Partners, S. W. Mitchell Capital and Woodford Investment Management are fund managers for St. James’s Place.
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