10 retail stocks resisting high street woes

After Ted Baker's demise, Stockopedia's Ben Hobson finds the retail 'super stocks' and high-flyers.

This week's profit warning from the fashion retailer Ted Baker (LSE:TED) carried some of the classic hallmarks you often see on these occasions. Profit warnings are right up there with some of the most gut-wrenching events to hit investors. That’s because they cause uncertainty about whether the problems are easily fixable, or are signs of bigger trouble ahead.

In the case of Ted Baker, this profit warning wasn't actually the first. There was another back in February, which related to its previous financial year (ending in late January). So this week's warning came just five months into its new 2019/20 financial year. To be cutting forecasts this early suggests the company is already reeling from difficult trading conditions.

So how did this news affect the price?

On the day of the trading update (Tuesday, 11 June), Ted Baker shares fell by 29%. That sliced its market capitalisation to around £425 million. Research by our analysts at Stockopedia suggests that the average profit warning causes an immediate fall of 19.2% on average. So this was a particularly bad one.

But it isn't just the 'fall on the day' that causes so much damage. A lot of the price action in the months before, and after, the profit warning is often both negative and predictable. 

Our research looked at 245 profit warnings in mostly smaller stocks between 2013 and 2016. It found that the prices of these stocks fell by 6% on average over the six months prior to the warning.

With Ted Baker, of course, bad news was already swirling in the market. On the upside, it reported solid trading over Christmas 2018. But that was followed by a profit warning for the full-year and then the departure (under a cloud) of its founder, Ray Kelvin. Ignoring all this noise, shares in Ted Baker slipped by 10% in the six months to this week. So the steady low-level negative momentum was there, and it was a warning.

So what happens next? Well, there's a well-known saying in the stock market that profit warnings come in threes. For many, it certainly feels that way, but our research shows that actually they don’t.

Of the 245 profit warnings we looked at, 64% of the companies only warned on profits once, while 36% warned more than once. Eleven percent of the companies warned on profits either three or four times during the period. But whether Ted Baker can stop at just two profit warnings remains to be seen.

What is clear is that our research showed that companies that issue profit warnings tend to see their prices drift lower over the next two to three months. After that, there was no significant recovery in the price, on average, over the following 12 months. From an investor perspective, there was little reason to hang on to the shares. Ultimately, it made more sense to sell on the day of the profit warning. Although it's fair to say that in some instances, stocks can recover much quicker.

With a reasonably high-quality profile and a much lower valuation, Ted Baker now fits the mould of a contrarian value play. In retail, this is a particularly beaten up end of the market at the moment. Stock prices here have been decimated and the outlook for what were good quality firms are very much uncertain. It's territory only for the very brave.

But there is a flipside. Some retailers are resisting high street pressures, and here are some of the higher quality, high momentum names:

Source: Stockopedia

But there is a flipside. Some retailers are resisting high street pressures, and here are some of the higher quality, high momentum names:

Source: Stockopedia

Some of these stocks really divide opinion among investors. And, of course, retail is one of the more emotive market sectors given that, as consumers, we know often these companies well.

As this list shows, a number of them are easily holding their own against the market. Most are clothing chains like JD Sports (LSE:JD.), Next (LSE:NXT), Boohoo (LSE:BOO) and Sports Direct (LSE:SPD). But there's also room for outlets like Dunelm (LSE:DNLM), Pets at Home (LSE:PETS) and the motor retailers Inchcape (LSE:INCH) and Vertu Motors (LSE:VTU).

Being prepared for profit warnings

This week's profit warning from Ted Baker was a severe example of the damage caused by stocks that disappoint the market. In some ways, there were signs that the company was vulnerable to difficult trading conditions. If it follows the trends seen in our research, it could take some time for the price to begin recovering.

For investors, it's a reminder how even good quality businesses can be susceptible to industry conditions. Knowing how these things tend to play out, and having a pre-prepared plan to deal with profit warnings (which takes away the emotion) could help to limit the damage.

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