Important information: The value of investments and the income from them, can go down as well as up, so you may get back less than you invest.

FEW sectors have had a stranger couple of years than retail. Shut-up shops became a staple image of a nation under lockdown, while queues forming outside Primark offered glimpses of a future free of the virus.

Back when I last wrote about retailers, the narrative centred around picking out the winners from the losers. Now, the whole sector is suffering under a new raft of pandemic-induced pressures.

In the crucial run up to Christmas, supply disruptions are retail’s latest bane. Whether it’s the turkey on the table or trainers under the tree, Christmas this year could be another tainted by the lasting effects of the pandemic.

Here we look at how you can navigate this complex sector and invest in UK retail companies.

Getting through the pandemic

The story of 2020 for the UK’s retailers was one of deserted highstreets accelerating massive shifts in consumption habits. For retailers, adapting to the changes the pandemic wrought was a brutal affair, giving rise to some winners but also plenty of conspicuous losers.

One clear differential was online presence - generally speaking, those that had a solid online model had a better chance of survival than those that didn’t (there were exceptions of course - more on that below).

Consider the success of online outlet ASOS. The online-only fashion retailer attracted 3.1 million new customers in the 12 months to August, while its sales in the four months to December rose 23% to £1.3 billion (with UK sales growing 36%). Over 2020, its share price rose more than 40%.

Maintaining a strong online presence was not the only route to success. Other forms of digitalisation helped - consider the success of Ocado, one of the UK’s biggest winners over 2020 and a flag-bearer for our market’s marginalised growth story.

To many eyes, Ocado is more of a tech company than a supermarket - for instance, its customer fulfilment centres incorporate gaming technology to visualise warehouses in 3D, allowing analysts to spot problems like traffic jams before they happen. This technological edge allowed Ocado to thrive where other supermarkets scrambled to keep up.

Then… and now

Things seldom stand still for the UK’s retailers. Last year’s winners are looking like today’s losers - since the start of the year, Ocado shares have fallen 24%, while ASOS have nosedived a mighty 47%, writing off all of last year’s gains.

In part, diagnosing ASOS and Ocado’s problems is simple. Shoppers have returned to the highstreets and the last of our lockdowns are (hopefully) behind us. That’s casting doubts over these companies’ growth prospects in a post-pandemic world.

But there’s more going on here. Online shopping appears entrenched - recent figures for September showed that 28% of retail sales happened online, compared to 19.7% in February 2020. Investors - and consumers - are still trying to work out exactly what that “post-pandemic future” looks like, and which companies stand to flourish most.

One that bucked the 2020 trend and kept its offering reserved to the high street was Primark, owned by Associated British Foods (ABF). Doing so meant the discount clothing store suffered last year - sales fell by 41% year-on-year to £2.23 billion in the six-months to 27 February, equating to almost £1.5 billion in lost sales.

While the situation hasn’t entirely improved - many of its European stores remain shut - signs are promising. A sizable leap in revenue for the 12 weeks up to June 19 (when lockdown restrictions eased across key markets) point to better times ahead, and perhaps a glimmer of hope for the UK’s high street.

Somewhere in the middle we find Next. Next has been able to develop a strong online offering while maintaining a solid physical presence. Despite the fact its entire fleet of nearly 500 stores were shut for a significant proportion of last year, group sales decreased less than 17%. The company appears to have kept up that momentum as restrictions have eased - the company reported pre-tax profits of £347 million for the six months to July, up 5.9% from 2019.

Unfortunately, Next isn’t out of the woods yet. It has successfully navigated the pandemic so far, but more trouble lies ahead for Britain’s beleaguered retailers.

Supply disruption

Efforts to make sense of the retail landscape have been complicated by broader structural shifts. We’re entering into an increasingly murky economic backdrop, which could affect the UK’s retailers in the vital run up to Christmas.

The big thorn in retail’s side right now is disrupted supply chains. Lines are snapping wherever you look: everything from factory closures in Asia to labour shortages here is having a knock-on effect on companies’ distributions networks.

The problem for retailers is twofold. On the one hand, shortages of goods lead to unhappy shoppers. At the same time, companies are being charged more by suppliers.

In recent figures published by the Office for National Statistics, so-called ‘factory gate’ prices - of wholesale goods before they are sold by retailers - were up 6.7% in September, compared to a 3.1% rise in consumer prices. Right now, retailers are buffering the effects of price rises so they’re not felt as sharply by shoppers. Unfortunately, they won’t be able to shoulder those blows forever.

The decision taken by Unilever, the UK’s second biggest company by market capitalisation, to raise its prices by 4.1%, lays bare the delicate tightrope retail now has to walk. Stores would like to shield consumers against price rises to remain competitive, but if rising costs become unsustainable, they may have to pass on some of the burden. At a time when the cost of other household essentials, particularly energy, are rising, this could be a tough winter ahead for retailers and shoppers alike.

Dreaming of a white Christmas

It’s not all doom and gloom. The Christmas period could be tough for this sector, but that doesn’t mean there aren’t any long-term investment cases here.

M&S is one company that has had a bumper few months. Its share price shot up in August after the retailer upgraded its profit guidance for the first time this century.

In the midst of a long-running turnaround, M&S seems finally to be coming out the other side. A savvy partnership with Ocado has helped see its food sales leap 10% above pre-pandemic levels, and while clothing and home sales still haven’t quite recovered, they also have seen a heathy rebound since their pandemic nadirs.

Like the sector’s other best players, M&S has cleverly diversified its offering while digitalising its platform. As suit sales have fallen, food deliveries have increased. It’s recognised how the sector has evolved, and how best to adapt its business.

The UK retail sector may be hard to get your head around, but if you take time to do your research, you may uncover a gem.

Important information: Reference to specific securities should not be construed as a recommendation to buy or sell these securities and is included for the purposes of illustration only. When you are thinking about investing in shares, it’s generally a good idea to consider holding them alongside other investments in a diversified portfolio of assets. Investors should note that the views expressed may no longer be current and may have already been acted upon. This information is not a personal recommendation for any particular investment. If you are unsure about the suitability of an investment you should speak to an authorised financial adviser.

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