VAT Cut to Buoy Next?

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VAT Cut to Buoy Next?

Next (LON:NXT) at 5,250p, after the second-quarter trading statement, looks lowly rated, both absolutely and historically, and provides an excellent vehicle to ride the sentiment effect of a Gordon Brown-like stimulation of the economy – successfully achieved in 2010 when the UK economy began growing again despite the alarming impact of a world banking crisis. 

There are several reasons for thinking that Next is now a share for buying despite the uncertain outlook for the UK economy post the Brexit referendum. Most are to do with the company and the current rating of its equity. However, one is macro-economic; I shall deal with that first.

We are now in receipt of the earliest post Brexit referendum statistics and market prognostications prompted by them. Without getting into too much stupefying detail, they seems to suggest that the UK will either be in a technical recession next year or may just avoid one – depending on which star gazing economic forecasters you follow. With that consensual drift expected, we are likely to see close to zero GDP growth next year, significantly higher inflation, fewer jobs than previously expected, and marginally higher unemployment. All that suggests weaker consumption as consumers’ real incomes decline in line with constrained wage and salaries and higher prices for imported goods and services resulting from the devaluation of the pound.

Without precisely identifying and arguing with the range of predictions on offer, it is sufficient to say that they all add up to the same thing: enough concern and doubt in the mind of the nation to constitute that old bane of investors – uncertainty. To that, add the fact that we are well past May and into the doldrums of the summer holiday season, suggesting that markets will tend towards weakness for some weeks.

None of the foregoing, on the face of it, would suggest that this is the kind of environment to be looking at retail shares. However, dear readers, we live in a dynamic world. The casino of politics has delivered us a new government and delivery from the rather narrow-minded, national accounting thinking of ‘hard hat’ George Osborne. So we are likely to be administered more dynamic economic policy which will favour consumer spending over national account balancing.

A month or two ago it was assumed that the Bank of England had little left to do in the monetary department of life but to start the process of increasing interest rates. Now, it is back to the post-crisis economics of attempting to stop the UK economy from sliding even deeper into a quagmire of economic decline because of the Nation’s economically self harming ‘Leave’ vote.

The new May administration must realize that the Bank of England, which has been given most of the responsibility of getting the economy to grow, has reached the practical end of its tether and has little left in the way of means to stimulate further. Many reasonably believe that reducing interest rates to one quarter of one per cent is likely to be more symbolic than practically effective. The government must now surely take a hand in bolstering demand.

There has been much excited talk about so-called helicopter money but that strikes me as too new, experimental and unpredictable a method. One that has been proved and tried in recent times is a significant reduction in value added tax, which Gordon Brown decisively and effectively used in 2009-2010. It should not be forgotten that, thanks to his policies, the UK economy was growing rather than shrinking in 2010 when the Tory/Liberal Democratic coalition came into office and the incoming Chancellor talked it into a near double-dip recession in 2011. I think that there is near total realisation by the government that something of a Keynesian nature needs to be done now to support retreating private demand and to prod the animal spirit of the economy back into life. A reduction in VAT seems highly appropriate because it is specifically designed to stimulated consumer demand, which has up to this point been robust. That of course would benefit retail spending – which brings us to my reasons for suggesting Next equity.

First, it has a strong and long track record for operational efficiency and market awareness that makes it an easy choice at first glance. Second, it also has a strong record of cash generation to the extent that the company has been able to create cash surpluses with which to increase dividends and/or buy in Next shares. Third, and most crucially, the shares look ‘bombed out’ at 5,250p (last seen), some 34 per cent down from their all time high of 8,015p. These shares have lost the premium valuation that used to be offered for their once peerless retailing superiority and now sell on a historic price to earnings ratio of under 12 times and on a prospective dividend yield of 3.7 per cent for the current year. Technically, the share price chart, on my interpretation of it, has broken out from the dramatic downtrend in the share price which began with a ‘twin peak’ late last year.

To top it all off, the company has just produced well received results in the shape of the trading statement just published. It informs us that if the exchange rate of sterling remains the same, then the referendum devaluation of the currency is likely to mean that its cost prices are likely to rise by less than 5 per cent overall.

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