The Retail sector is facing well-known headwinds, however, some stocks have defied these to post strong gains, because as we hear in this discussion, 'results can be bad, but if they’re less bad than people think, then prices can move up'. 

Over the last twelve months, for example, Baby Bunting, JB Hifi and Temple and Webster have gained 33%, 40% and 53% respectively. Indeed, over a three-year period, Temple and Webster is now up a lazy 1,053%. 

With money still being made in this unpopular sector, we asked Daniel Moore from Investors Mutual and John Ayoub from Wilson Asset Management for their views on the dynamics at play, and where the best opportunities in retail are today. 

Transcript

James Marlay

Hello, and welcome to today's thematic discussion where we're going to be talking about the retail sector in Australia. I've got John Ayoub from Wilson Asset Management and Daniel Moore from Investors Mutual. Welcome gentlemen. It's been a tough time for the retailers. The consumer sentiment in the country has hit the lowest level since 2015. We've had the RBA cutting rates, two cuts this year so far, which suggests things are not so good. Notwithstanding that, the retailers have had a little bit of a pop lately, so we're going get in and find out if sentiment is too low, and if the outlook is a little better. John, I'll start with you. What's your assessment on the consumer in Australia at the moment? How well are they travelling?

John Ayoub:

The consumers pretty well positioned at the moment, but it's that confidence issue. If you take employment at the moment, we're below mid cycle. We got more participation in the employment sector, but where the dent is is around that wage growth and what people are getting in their pockets weekly.

James Marlay:

It's been elusive the wage growth. Dan, have you got anything to add to what John says? What's your view on how the consumer's travelling?

Daniel Moore:

Yeah, I think the other element is the debt. Australia's one of the most geared consumers in the world. I think we've got the bronze medal, and that's just... You've got that burden on the back of people's minds, so I think despite unemployment being low that lack of confidence is because that debt is there. Wage growth has been pretty low, but there are a lot of people still employed, so it's not a disastrous situation, but that debt just means people aren't spending excessively.

John Ayoub:

To Dan's point, we're seeing the consumers save a lot of the benefits that they're getting from interest rate cuts and tax cuts, so we're still to see that confidence for them to go out and be willing to spend rather than to save and absorb that level.

James Marlay:

Christmas is only two and a bit or so months away. Hard to believe we're saying it already. You've mentioned we've had a couple of rate cuts. What do you think the outlook running into Christmas is? This is obviously a really important period for retailers. How do you view the next few months?

John Ayoub:

It's an interesting one. We still we're just starting to see all those benefits hit the bank accounts now. It's what consumers do once they get the cash. Yeah. Perhaps we should start seeing an uptake in activity come November, December into that Christmas period. I'm probably more buoyant than most for that Christmas period. The real question is it a short term sugar hit or is it sustained?

James Marlay:

Daniel, your view running into Christmas? Have you got a view on on how trading will fair? Have you got a view? Is it a good time to be looking at the retailers?

Daniel Moore:

I think if you look at recent history when interest rates have been cut recently, most people have held their mortgage payments at the same level. They haven't taken that interest rate cut. This is an opportunity to spend it, and I don't think that's going to change. That's just because the debt levels are high. I don't see a big a splurge coming from consumers. I expect some a little pickup, but nothing significant.

James Marlay:

If we look at some of the movements in the market throughout August reporting, a lot of the bad news and the negative sentiment was already factored into markets, and we've seen companies like JB Hi-Fi, Harvey Norman, that were in theory going to be heavily disrupted by players like Amazon coming in. They've actually charged ahead 40% up for the year to date. What have we missed, or why has that been the case when seemingly the outlook is not that rosy?

Daniel Moore:

I think in the short term share prices can move based on the positioning of investors. If everyone's already bearish, and there's a number of shorts in the market, if the news is, it can even be bad, but if it's less bad than people think, share prices can move up. I think that's definitely what we're seeing in a number of retailers this reporting season. Looking more medium term, I think the outlook's still tough. We can talk about a few stocks where they've just reported recently where the news is not so rosy, and we're seeing some of that gloss come off.

James Marlay:

I mentioned a couple of names there, a few others. Some of the smaller retailers like Kogan, Temple & Webster have done really well, has the good news - or the 'okay news' - now been factored into those prices?

John Ayoub:

The market is very efficient, and they're very good at pricing things quickly. We've seen recently Flight Centre and Baby Bunting worn a little bit, and that's more around the extrapolation of the sentiment. These things are probably later cycle beneficiaries, particularly Flight Centre, but credit where credit is due: operators like JB Hi-Fi are best in class. They are very cost discipline and focused, and the Australian retailers generally are very good at ensuring that that bottom line momentum is retained. Yeah. If you go around the world and benchmark JB Hi-Fi and the like, they are best in class. We have to give credit to the Australian retailers from the discipline standpoint.

James Marlay:

Okay. I had a look at to work out what amount of retailing was being done online in Australia. 6% was the number that I picked up. It's still not a big number. Has the Amazon effect started to take place, or is that being completely overplayed?

John Ayoub:

We haven't got the full network benefits from an Amazon coming down here. We just don't have the last mile down pat in Australia. It's given time to the domestic retailers to lead the charge. If you look at what companies like Woolworths are doing from that standpoint, they're very innovative, and even Coles with their partnership with Ocado they're on the front foot, and they're not waiting for these foreign players to come and dominate the market.

James Marlay:

Okay. Let's get into a couple of stocks. Dan, maybe you can give us a pick amongst the retailers, but before you get into your stock, what do you want to see in a stock in a retailer? What are some of the must haves on your list when you're going through the when you use selection criteria?

Daniel Moore:

It's got to be a good quality business, and they've got be one of the leaders in their field. They've got to be number one or two. Coles is the stock we really like at the moment or have liked for since it demerged. They're the number two player. We're seeing the supermarket industry become a lot more rational. It's been very competitive for a long period of time. We're starting to see more rationality. We're starting to see a bit of price inflation for the first time in a long time. We see some good sort of upside from internally driven factors. If you look at the margin of Coles, it's a a hundred basis points below Woolworth's. Most of that gap is because their supply chain is pretty poor, and managements got a good plan we think to improve that supply chain. It's got to be a good player. It's got to be well positioned. They've got to have a plan to sort of improve the business from their own internal drivers.

James Marlay:

John, have you got a retailer that you like the look of? Again, same as Dan, can you talk us through the must haves from the Wilson Asset Management perspective?

John Ayoub:

For us, if you want to look at a retailer, you got to look at it through the cycle. From that standpoint, we like disciplined management teams that really know how to control their panel. In our a small cap team we mention a lot is Myer, but one in the big cap space, which I think have that self help and have been very disciplined, and it's kind of quite often forgotten as a retailer is Qantas. If you look at what Qantas has a lot of their tailwinds are starting to come through. International capacity coming out of the market. Virgin having to be more disciplined on price and capacity. From that standpoint, with a buyback in place, Qantas is very well positioned, I think, to kind of absorb any sort of uptake in retail spend.

James Marlay:

A lot of the factors impacting retail are out of their control. The ones with strong management look like the ones who go forth with these two.