Investors are often unable to visualise potential upsides for struggling sectors such as Retail
As we have discussed before in articles such as Spot the difference, the market is not keen on a number of high street retailers at present due to the cyclical and structural challenges that they face. The difficult economic backdrop is the most obvious cyclical issue, while structural ones would include the shift to online buying and more intense competition from amazon and the supermarkets.
For our part, we have contended that share price levels for some retailers discount a fair amount of this bad news and assign a very low probability to companies’ situations improving in some way. Two developments in recent weeks underline this point.
The first illustrates how the market often fails to acknowledge a company’s ability to help itself. all companies – no matter what sort of position they are in and, admittedly, to differing degrees – can look to improve their situation through self-help and indeed that is what home retail group, the owner of Argos and home base, is trying to do.
Rather than sit back and just accept its decline, the company has gone out and hired a well-regarded new chief executive for its core Argos business. In turn, he has come up with a strategy that he believes will allow the business to compete in an increasingly internet-centric retail environment and enable it to grow sales and profits once again. Of course, only time will tell if this plan will work – but home retail’s current share price does not acknowledge the possibility of success.
The stock market also frequently ignores the potential for external factors to help retailers out in the future. An obvious example of this for retailers might be an improvement in economic conditions that leads to rising consumer spending. This has yet to happen, but we believe the potential for it to do so isn’t reflected in share prices. Similarly, companies can benefit from changes in the competitive environment they operate in due to rivals leaving the market and so on - in this regard there have been some significant developments in the retail space recently.
Many retailers have had a tough few years but some are in much better financial shape than others – a fact starkly illustrated by comet going into administration at the start of November. While it is too early to draw any concrete conclusions on the impact this will have, the resulting reduction of capacity in the UK electricals market is unlikely to be bad news for the likes of Dixons and home retail. US electricals retailer best buy has also withdrawn from the UK market in the last year.
Comet’s collapse and Argos’ turnaround plan are good examples of the sort of ‘free options’ that value investors can benefit from when they invest in unloved and lowly priced businesses. Other investors don’t expect such things to happen – but they can and they do – and paying little or nothing for these possibilities is a big part of what delivers returns to patient, contrarian value investors.
Fund Manager, Equity Value
I joined Schroders as a graduate in 2005 and have spent most of my time in the business as part of the UK equities team. Between 2006 and 2010 I was a research analyst responsible for producing investment research on companies in the UK construction, business services and telecoms sectors. In mid 2010 I joined Kevin Murphy and Nick Kirrage on the UK value team.
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