Why you shouldn’t bet on supermarkets yet

As High Street shops report soaring Xmas sales

THE big four supermarkets have finally won back some ground from the discounters. But is this really a retail renaissance?

Six months ago, investors had dropped supermarket shares like hot potatoes. The outlook for the sector was not good.

Discount retailers Aldi and Lidl (which are not listed in the UK) were fast gaining market share; profits were being hit as prices were forced lower and lower; a rapidly weakening pound was increasing the cost of production and imports, with major brands raising their prices across the board; and a recovering oil price was increasing the cost of logistics and transport.

Shares fell as technology giants such as Amazon promised fresh groceries delivered quickly at low prices. But a Christmas miracle has occurred. This week the supermarkets reported bumper festive trading, and got investors wondering whether they’d cashed out too quickly.

Tom Becket, chief investment officer at Psigma Investment Management, says: ‘Supermarkets were hated at the start of last year but, just like everything else that happened in 2016, they have surprised investors with a Christmas recovery.’

Figures from consumer research giant Kantar Worldpanel revealed consumers spent £480m more at the tills this Christmas than the year before, boosting supermarket sales by 1.8pc.

The typical household spent £365 in the lead up to Christmas, some £52 more than the average month.

AND grocery prices increased for the first time in 28 months. The big four – Tesco, Sainsbury’s, Asda and Morrisons – nabbed 71.4pc of market share between them, gaining back 0.1pc from their discount rivals.

It is the first headway they have collectively made since June 2014.

Positive changes have seen Morrisons’ shares climb 33pc over the past six months, Tesco 26pc and Sainsbury’s 15pc.

Becket says: ‘ There has been a lot of self-help by these businesses, a lot of changes have been made by management, and consumer spending and the economy have proved to be far more resilient than most people expected. But I’m still cautious. I’m not sure if this was a just a relief rally or if it’s something more sustainable.’

While on the surface this week’s run of results seem positive, much of the supermarkets’ fortunes have not centred on food.

Sainsbury’s was given a boost as its takeover of Argos took hold, while Morrisons got a lift from the roll-out of its clothing range.

Ian Forrest, investment research analyst at The Share Centre, says: ‘Clothing and home sales have improved, which is a sign of consumer confidence, but the shift away from the High Street to online was clear this Christmas. The retailers that recognise that trend will be the winners over the long term.’

The shift to online is one of the major issues that supermarkets need to get to grips with if they are to thrive. And if they get it right, it is one of the assets they have over the upstarts Lidl and Aldi.

But Simon McGarry, senior equity analyst at Canaccord Genuity, says regardless of the Christmas figures, the threat this duo present is not going away.

‘Aldi and Lidl have increased their market share to 10.4pc from 7.1pc just three years ago,’ he says.

Discounters tend to take a smaller share at Christmas as shoppers revert to traditional retailers which are more of a one-stop shop.

But with strong premium ranges, the usurpers still saw sales climb. And while inflation gave retailers a profit boost this Christmas, if it keeps climbing it could soon become a hindrance.

If consumers start to feel the pinch from rising prices then more people are likely to move to the discount chains, and the big four have slashed prices so much in a bid to compete that they haven’t got much more room left to go without seriously denting profits.

Even those customers who stay loyal are likely to cut back. McGarry says: ‘When food inflation climbs above 2pc there are usually clear falls in food consumption. In 2011 it rose above 5pc and that’s when the discounters started to take market share.’

He is also sceptical of those that are trying to diversify their income streams. While Argos helped Sainsbury’s to a strong set of results, it still faces stiff competition from the likes of AO World and Amazon. Other supermarkets that get a boost from clothing sales will continue to feel the heat from the likes of Primark. With so many uncertainties in a sector undergoing major change, the jury is still out on the food retailers.

Forrest says: ‘We don’t know how far this recovery is going to go. At the moment, the best thing to do is wait and see.’

None of the listed supermarkets are on the buy lists of any of the major brokers we spoke to. However, Sainsbury’s is one of the largest investments in the Sanditon UK Fund, which is up 21pc over the past year. The stock accounts for 5.6pc of the £116m fund.

Tesco makes up 4pc of the £3.5bn Majedie UK Equity Fund, which is up 31pc over the past year.