Retail is a sector ripe with opportunity for long/short JPMorgan fund manager Callum Abbot, but it is not a simple case of buying the e-tailers and selling the high street names.
‘Disruption has been a huge theme for a number of years now – the advent of the internet has changed consumer behaviour enormously,’ he said.
‘It’s tempting to say short all traditional business models and overweight those doing the disrupting, but it’s more nuanced than that. Not every online retailer is Amazon and not every high street retailer is BHS or Debenhams. That is good for active managers like us who can express both positive and negative views.’
On the long side, Abbot and his co-managers on the JPM UK Equity Plus fund typically favour stocks that are cheap, good quality and have strong momentum, while being careful to avoid value traps – companies that are cheap but facing long-term decline.
On the short side, they look for stocks that are expensive, poor quality and have weak momentum. As a benchmark relative fund, they make alpha from shorts when a stock underperforms the FTSE All-Share index.
We spoke to Abbot about some of his current long and short positions in the retail sector.
The fast fashion e-tailer boasts good margins from selling its own products (unlike competitor ASOS, which sells predominantly third-party products and has ‘paper thin’ margins, according to Abbot). Boohoo produces new product lines in small runs to test appeal and avoid having large overhangs of stock to sell at a discount. The managers of JPM UK Equity Plus have held it before and recently bought back in.
JD Sports is capitalising on the trend for activewear and athleisure in part thanks to its strong partnerships with Nike and Adidas, which together account for an estimated 60% of group sales. It is one of two global Nike partners, the other being the American firm Foot Locker. ‘JD Sports invests in its shops, retails its products as premium goods and maintains pricing discipline, which keeps its partners happy, and in return they get exclusive content, which drives footfall. It is a virtuous circle,’ Abbot said.
Next has harnessed the infrastructure of its former catalogue business to grow its online presence. Its online business has recently overtaken its traditional high street retail business in size. A 15-year stress test, based on annual declines of 10% in like-for-like sales in its high street retail business and compound annual growth of 7.5% in its online business, suggests a cash generation of £12bn between now and 2035. In the final year, the business is projected to make £1.1bn. ‘Management have kept ahead of a dynamic and challenging market,’ Abbot said.
When AO World floated in February 2014, its shares soared more than 33%, which left the business with a valuation of nearly £1.6bn. However, the online retail group specialising in electrical goods has not made a group pre-tax profit in any of the past five years because of the losses it sustained trying to replicate its UK success in Europe. It is now valued at around £350m. ‘It’s still a jam tomorrow story,’ Abbot said.
A real-estate investment trust focused on shopping centre management and development, Intu Properties has taken on a lot of debt. But its footfall has reduced as consumers shun shopping centres in favour of buying online. ‘The whole shopping experience has been heavily disrupted, bringing into question the value of Intu’s assets,’ Abbot said.
Marks & Spencer
Clothing sales at the department store chain have been falling as online competition has disrupted the market and they have not been able to adapt. This has been compounded by an out-of-date supply chain and poor logistics. Several management teams have tried to revive the 135-year-old company, which recently lost its place in the FTSE 100. ‘If you were building a retail business from scratch today, it would not look like Marks & Spencer,’ Abbot said.
In the year 2030
The high street isn’t facing absolute demise, according to Abbot, but it will need to evolve further to become a leisure destination. While prime locations like London’s Oxford Street and high-end designer brands should continue to see footfall, other locations will need to concentrate on consumer offerings beyond retailers if they are to survive. ‘Smaller high streets face real headwinds and it’s tricky to see how they can turn that around,’ Abbot said. ‘We may need to see government investment to drive a change.’