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UBS picks best and worst retail stocks for this rate cut environment

Today’s interest rate cut by the Reserve Bank of Australia is good news for retail stocks as record low interest rates and signs of a bottoming in the housing market should provide tailwinds to the consumer-facing stocks.

The consumer discretionary sector outperformed with a 0.5% rise compared to flat finish for the S&P/ASX 200 (Index:^AXJO) (ASX:XJO) index on Tuesday and UBS believes there is another rate cut in the wings.

The forecast cut to the official cash rate to 0.75%, the proposed tax cuts and the end of the home price slump should provide a circa 0.5% uplift in household goods sales in FY20, according to the broker.

Little good news priced in

While one-year forward price-earnings (P/E) valuations of discretionary retail stocks have increased around 7% since the start of calendar 2019, the sector still has room to climb higher given that many are still trading under their three-year average P/Es and consensus expectations are still low.

But don’t be fooled into thinking that the improving outlook means all consumer stocks are all worth buying despite the seeminly attractive valuations.

“House prices and stimulus to provide a net tailwind to sales in FY20+. House prices have the highest correlation to retail sales and UBSe tax/rate cuts will add 140bp to household good sales in FY20,” said UBS.

“[However], housing activity will remain a drag for the next 9+ months as peak completions are cycled (UBSe ~30bp drag).”

For this reason, the broker is avoiding retailers that are exposed to home renovations and repairs and household goods.

The good, bad and ugly

For these reasons, UBS most favoured retail stocks include travel agent Flight Centre Travel Group Ltd (ASX: FLT), alcoholic beverages company Treasury Wine Estates Ltd (ASX: TWE), auto parts group Bapcor Ltd (ASX: BAP), apparel and stationary retailer Premier Investments Limited (ASX: PMV) and fuel supplier Viva Energy Group Ltd (ASX: VEA).

On the flipside, consumer stocks that the broker is avoiding are electrical and whitegoods retailers JB Hi-Fi Limited (ASX: JBH) and Harvey Norman Holdings Limited (ASX: HVN), as well as poultry supplier Inghams Group Ltd (ASX: ING).

But there are also buying opportunities outside of retail. The experts at the Motley Fool are tipping these stocks will outperform the market in FY20.

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Motley Fool contributor Brendon Lau owns shares of Premier Investments Limited. Connect with him on Twitter @brenlau.

The Motley Fool Australia owns shares of and has recommended Bapcor, Flight Centre Travel Group Limited, Premier Investments Limited, and Treasury Wine Estates Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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