Robert Stephens, CFA, discusses the outlooks for three FTSE 100 stocks that are heavily reliant on the UK economy.
Investor expectations towards the FTSE 100 have dramatically improved over the past few months. The index has gained 25% since its 2020 lows, and yet the trading conditions for many of its incumbents are as uncertain as they ever have been.
Weak consumer confidence, a looming recession and even the prospect of deflationary forces could make the remainder of 2020 a tough time for many companies with operations in the UK.
As ever, this situation could present buying opportunities for long-term investors who can sit tight over the short run while volatility may be high.
Grocery retailers such as Morrisons (LON:MRW) have experienced a surge in demand for their services under lockdown. The company reported a 10.8% rise in its like-for-like sales in the final two weeks of its first quarter. High sales growth may persist in the short run as social distancing measures remain in place.
However, rising unemployment could cause shoppers to become more price-conscious as the economic toll of containment measures becomes clear. This may favour budget retailers, and make it more difficult for existing operators to compete on convenience and customer service to attract higher margins.
Still, Morrisons may benefit from the growth potential of its online offering. It is ramping-up capacity as consumers continue to switch towards online grocery delivery. Therefore, over the long run the retailer could experience an improving financial and share price performance.
UK new car sales for the first five months of the year are down by 50%. Even as showrooms begin to reopen, an assumption that sales will quickly rebound may prove to be misplaced. Rising unemployment and job insecurity mean that many consumers may postpone a car purchase, or make do with a more basic model.
This could create an extended period of difficult trading conditions for online car sales platform Auto Trader (LON:AUTO). Therefore, its share price may be volatile in the short run after its 50% rise in three months suggests investors are assuming a rapid return to growth.
Over the long run, the company’s wide economic moat and a likely return to growth mean that a future pullback in its share price could be a buying opportunity.
Banking stocks such as Lloyds (LON:LLOY) could also experience further challenges. As well as a weak economic outlook that may lead to a rise in bad loan provisions, low interest rates have reduced net interest margins across the sector.
Investor sentiment towards Lloyds reflects its uncertain future, as well as its reliance on the UK ahead of the end of the Brexit transition period. The stock is down 50% this year, and a further decline based on weak results would be unsurprising.
However, the bank’s investment in its digital operations and its competitive advantage in this area could be a key point of difference as the sector becomes increasingly technology-focused. It has also made greater progress in reducing costs over the past decade than many of its industry peers. These attributes could position it for growth as economic stimulus gradually leads to a return to positive GDP growth.