Godber, manager of the CF Miton UK Value Opportunities fund and a valuations-based investor, says the embattled supermarket chains are the stocks his investment team is talking about the most, but he is holding back for the moment.
“Right now, it’s too early. We’re at the point where there’ll be a price war across the entire industry,” he said.
Food retailers sent the FTSE into the red earlier this week, as discount grocery chain Morrisons issued its second profit warning of 2014, saying profits could as much as halve this year.
The stock plummeted more than 10 per cent in a single day on Thursday and has continued its downward spiral.
The firm also announced it would compete more on price with cut-rate supermarket chains Aldi and Lidl, causing analysts to fear a full-on price war with other mid-range chains such as Tesco, Sainsbury's and Marks & Spencer, which all saw their shares tumble on Thursday.
While Morrisons is one of the highest-yielding stocks in the FTSE 100, its share price has suffered for some time, losing money over the last one, three and five years.
The stock is down 21.11 per cent over the past 12 months alone, while the FTSE 100 is up 4.95 per cent.
Performance of stock vs index over 1yr
Source: FE Analytics
Godber says the price for Morrisons just isn’t low enough for him to buy in and adds the company’s recent results highlight that it is not the best-run business out there.
However, he says there are some interesting opportunities cropping up in the sector, especially once supermarkets sort out what they are doing with their online businesses, which Godber says currently make lower margins than in-store foot traffic.
He prefers the business models of Sainsbury's and Waitrose, which have taken more market share from the top. However, he says the impact that the departure of chief executive Justin King will have on Sainsbury's remains to be seen.
Godber adds that Sainsbury's has done a better job expanding out of food-related products than the likes of Tesco, which invested huge amounts of money in mega-stores that haven't been able to compete with online retailers such as Amazon which can deliver goods at cut-rate prices.
Julian Chillingworth (pictured), manager of the Rathbone Recovery fund, says he is “watching closely” but says investors should be prepared for extreme volatility in the sector.
While he currently doesn’t own any supermarket stocks, he is keeping an eye on developments because valuations are starting to look interesting; however, he warns there is a lack of visibility in the future of the sector as a whole.As a result, he is steering clear for the time being.
“Yesterday’s announcement from Morrisons was not a complete bolt from the blue,” he said. “The company needs to react to [competition], but there is scepticism around whether it is going to be enough.”
“It is getting a squeeze from the bottom and the top. This is also true of Tesco and to a degree Sainsbury's,” he added.
Like Godber, Chillingworth warns that the real threat to the sector is a price war, which could drive their share prices into the ground. However, he says it remains to be seen how serious this strategy would be.
“Any price war is not good for any of them,” he said. “The bigger question is the industry changing radically and whether they are feeding more market share to the discounters at the bottom or Waitrose at the top. More importantly, is the whole industry moving online?”
“There are a lot of unknown unknowns out there,” he added.
While Chillingworth isn’t ready to pick up any of the supermarkets on a discount, he says if investors currently hold them for income their yields are looking attractive at around 5 per cent.
However, he warns they will need to accept a lot of short-term volatility, which will damage total returns over the long term.
FE Alpha Manager Jan Luthman, who holds Sainsbury's in the top-10 of his Liontrust Macro Equity Income fund, points out that the stock is trading at its cheapest level relative to the FTSE All Share since 1989.
“The yield is now 6 per cent – a level at which Sainbury’s share price has historically found support,” he added.
Sainsbury's is down 10.97 per cent over the past year and has continued to fall over the shorter term. It is down 13.31 per cent over the last month alone.
Performance of stock vs index over 1yr
Source: FE Analytics
Luthman thinks there are clear differences between the supermarket chains and doesn’t think the future of the stocks will boil down to price competitiveness.
“Sainsbury's has demonstrated an ability to differentiate itself, and has not allowed itself to get sucked down the ‘lowest prices’ cul de sac – as has been demonstrated by the resilience of its margins,” he said.
“It may be worth pointing out that Waitrose has very successfully positioned its stores as pleasant places to shop and socialise, while Tesco’s ‘every little helps’ slogan effectively portrayed it as a supermarket chain offering low-cost rather than high quality, forcing it into head-on competition with the cost-cutters, and probably alienating its high-margin Tesco Finest customers.”
He adds that Sainsbury's is able to deliver growth from more than just the food retail arm of its business, which helps to diversify returns.
“Sainsbury’s now owns 100 per cent of Sainsbury’s Bank,” he said.
“Just 5 per cent of Sainsbury’s shoppers purchase Sainsbury’s Bank products, so there is plenty of headroom for the bank to grow its earnings. Look across at (French supermarket) Carrefour, where 10 per cent of earnings are derived from personal finance.”
