Where the hell is all that inflation I keep reading about? I’ve just been for a stroll down my local High Street, and there’s not much evidence of inflation in my part of the world. All I can see is brutal competition – shop windows are blocked out with sales posters screaming “75% off!” to lure the punters in.
And what about that VAT hike? The price of my morning coffee hasn’t changed. And the pound shop across the street hasn’t become a pound-and-tuppence shop.
So is anyone passing on this VAT hike? Well, a few are. And I think I’ve found a smart way to profit from the grim outlook for high street retailers in the months ahead.
Don’t bet on the wrong horse
There are two camps in the retail market at the moment. Those that can and will pass on VAT, and those that can’t and won’t.
As the owner of a small retail operation, I’m firmly in the camp of ‘not passing on the VAT to punters’. To me, the VAT increase is nothing more than a business tax that I’m going to have to shoulder. My margins are shrinking – but hey, there’s an austerity war on – I’m doing my bit to help.
Punters don’t have to buy my products – they are luxuries. I’m expecting sales to stall, and that’s on top of shrinking margins.
For me, the VAT increase is far from inflationary. Less profit means that I have less cash to spend in the economy. And I’m not the only one in this position.
What planet are these people on?
I almost laughed out loud as I read Next (the clothes retailer) bluff its way through its post-Christmas trading statement on Wednesday. They said sales had been lousy (down over 6% on last year) and blamed it on competitors who’d been busy discounting products early.
But here’s what really made me chuckle: they reckon that this year they’re going to be passing on their increased costs to consumers. That’s right, they reckon that VAT and raw material hikes will mean their prices are going up by some 8%.
Well, of course they can put their prices up. I could too – but then I’d only have to bring them down again.
Sure, the jumper that cost thirty quid last year may be marked up to thirty five this year, but I reckon it’s going to come down to a nice round twenty by the time the sales come round.
Consumers love a bargain. In fact, Next’s trading statement hit the nail on the head: Christmas sales were down because other retailers had started their sales early. Frankly, discounting and sales is where it’s at. And narrowing margins is where it’s going.
Like my business – and every other man hanging on the discretionary spending of punters – Next didn’t (and can’t) pass on their increased costs. What chance will they have in austerity-ravaged 2011?
Surely this is a profits warning waiting to happen? But wait, there’s more.
Just look at HMV, the purveyor of music, books, films and games. They had a trading statement out on Wednesday too – and that included sales down 10% and the closure of 60 stores. Competition from supermarkets and from online vendors is killing them. Slowly but surely, HMV is disappearing. Are they going to be passing on their increased costs in 2011? Fat chance.
I really don’t fancy these high street retailers at all – their stocks could get crushed in the year ahead. But there are some guys that will be passing this VAT rise onto punters. I’m talking about the ones selling us the essentials: the supermarkets, the energy suppliers, the big pharmaceutical boys – basically, the providers of the stuff we can’t do without.
Only invest in the big boys with clout
If you’re thinking about retailers in 2011, the ones to invest in are the ones that can push up prices as costs escalate.
Supermarkets are already inflicting severe pain on the high street. They’ve got the clout to buy cheap, and you can be sure they’ve got the clout to maintain margins.
Pharmaceuticals have that clout. And utility providers will pass on their increased costs too. This is a regulated market, and the regulator accepts that if costs go up, so should prices.
So here’s an idea. It’s known as a ‘pairs trade’ – it’s a classic hedging strategy that smart traders use all the time.
You short the retailing sector in general and at the same time buy a sector that can pass on its costs. There’s definitely something to be said for a short position to bring some balance to your portfolio. That way, if the market takes a tumble, your short retailers position should help to offset the losses on the sectors you’ve got your money on. You can do this easily through spread betting.
I’ll come back to this soon and show you in greater detail how you can use ‘share pairs’, ‘sector pairs’, or even ‘country pairs’ to help reduce risk… and even make money as the market or a sector falls. Stay tuned.
• This article was first published in the free investment email The Right side. Sign up to The Right Side here.
Your capital is at risk when you invest in shares – you can lose some or all of your money, so never risk more than you can afford to lose. Always seek personal advice if you are unsure about the suitability of any investment. Spread betting is not suitable for everyone – ensure you fully understand the risks involved and never risk more than you can afford to lose. Spread betting carries a high level of risk to your capital. Prices can move rapidly against you and resulting losses may be more than your original stake or deposit. Margin amounts vary between spread betting companies and the type of markets spread bet. Commissions, fees and other charges can reduce returns from investments. Tax treatment depends on individual circumstances and may be subject to change in the future. Please note that there will be no follow up to recommendations in The Right Side.
Managing Editor: Theo Casey. The Right Side is issued by MoneyWeek Ltd. MoneyWeek Ltd is authorised and regulated by the Financial Services Authority. FSA No 509798.
https://www.fsa.gov.uk/register/home.do