Having taken a battering in light of the EU Referendum result last year, sterling has advanced since the decision of prime minister Theresa May to call a general election.
Mould commented, ‘The dominant post-referendum trading theme since last summer has been ‘pound down, stocks up,’ with overseas plays and dollar earners leading the way and domestic plays lagging. If sterling does continue to rally, investors may choose to focus on those sectors that have been neglected since the Brexit vote because of their reliance on the UK economy – namely general retailers, food retailers and the real estate plays.’
Of the first two mentioned, he remarked, ‘General Retailers and Food Retailers have suffered because the weaker pound has been seen as a contributor to inflation, which has a two-fold negative effect upon them. First its increases their costs when it comes to importing raw materials and goods from overseas, forcing them to either take a margin hit or raise prices. Second, rising inflation crimps consumer spending power, especially if wage increases do not keep pace.’
He continued, ‘Next, Dunelm and Mothercare are all retailers who have flagged their need to hike prices this year to compensate for increased raw material costs, so any sustained gains in the pound (still by no means a certainty) could help them both financially and in terms of sentiment toward their share prices.’
Mould opined that evidence exists which shows that, over the course of history, shows that retailers outperform the wider stock market when sterling is strong, and do worse than the wider market when sterling is weak.
But he added, ‘This is not to say long-term issues such as competition from the internet and the battle between bricks and clicks, let alone the challenges to general retailers posed by unhelpful demographics and the concept of “peak stuff,” have gone away. But in the short-term the noise created by the currency markets may tempt traders into action and trump long-term considerations.’
The second sector on which he is keen if sterling remains relatively strong is real estate. The analyst commented that, ‘The Real Estate Investment Trusts (REITs) and Real Estate Investment Services sectors both took a drumming on the back of the referendum result last year and – unlike the house builders for example – they have yet to recapture the lost ground. If the market decides to start looking for domestic value plays, both areas may therefore come onto traders’ radars, especially as they have already started to run.’
He rationalised that argument thus: ‘Besides a focus on the pound (and the prospect that its rally may cool inflation and even further delay any increases in interest rates from the Bank of England) there are three other possible reasons REITs in particular could be starting to make a comeback.’
The outcome of the general election may lead to a higher level of certainty around the direction of public policy in the UK. Were that to be the case, it is likely that UK bond yields [that is the yield paid on UK government debt, would fall, increasing the relative attractiveness of the income that can be derived from property.