Could the Struggling Retail Sector Stimulate a Recession?

It’s no secret that the Australian economy is on shaky ground.

With the economy so reliant on the housing sector, it’s not looking good as house prices continue to fall. For the past 11 months, the market has fallen and it doesn’t look like it’ll be improving any time soon.

But it may be another struggling sector that could see the banks be hit hard.

Last week, the Reserve Bank of Australia posed a question, per the ABC: ‘…are Australia’s banks, and therefore the broader economy, vulnerable to a shaky retail sector?’

It’s a question that requires some consideration.

The struggling retail sector

As we’ve seen on the news for a number of years now, the retail sector has been struggling. Myer is a perfect example.

This month, Myer just announced a loss of close to $500 billion, more than what the company is worth.

So it’s not surprising that the RBA is concerned with the impact the retail sector will have on banks and eventually the economy.

And while retail is flailing, the development of retail space is growing. And who’s funding all of this? You guessed it…the banks.

The increase in retail space is a bit boggling when you consider how many stores have closed multiple stores across Australia recently: Topshop, Dick Smith, Rhodes and Beckett, Oroton, Marcs, Pay Less Shoes, the list goes on.

Toys ‘R’ Us have also shut their doors in Australia.

All the stores mentioned above were easily accessible to the everyday Aussie. Most found in local shopping centres.

The risk to the banks is lurking, but as the RBA’s Gabriela Araujo and Timoth de Atholia explained in a research paper they wrote: ‘The flow-on effect to Australian banks so far appears minimal’.

Online shopping saves the day

In the RBA’s September bulletin, both Araujo and de Atholia wrote:

One contributor to this is the numerous refurbishments to shopping centres being undertaken to accommodate large international retailers and place a stronger emphasis on services and hospitality — differentiating shopping centres from online retailers.’

 

However, if we look at retail from an online perspective, then we can see that it is fast becoming one of Australia’s favourite ways to shop.

The ABC believes that the battle over in-store shopping and online shopping will be an issue regarding their financial stability.

The ABC reports that ‘Online retailers are rapidly gaining market share. Sales growth is heading towards 50 per cent, albeit off a very low base, while in-store sales are still growing, but only just’.

But online shopping isn’t the only thing bringing down retail in Australia. With stagnant wage growth and increasing household costs, Australians just don’t have as much as they used to, to spend on retail.

And as ABC reported, even if Australians have left over income to spend, they are increasingly going to cafes and restaurants rather than shopping.

So what does the RBA think could happen if retail continues to decline?

One risk is that the changing retail environment might lead to store closures or insolvencies of domestic bricks-and-mortar retailers

This could result in higher vacancy rates at shopping centres and make it harder for shopping centre owners to meet their debt obligations. In turn, this could have implications for banks’ asset quality.’

So what part do the banks play in all of this?

Well according to the RBA, banks are becoming more reserved with their lending when it comes to discretionary goods retailers.

And this is hitting shopping centres and department stores across the nation. If you just walk through your local centre, you will more than likely come across vacant stores. And as Araujo and de Atholia wrote:

Owners of refurbished centres, or nearby centres, may then find themselves unable to meet debt obligations and be forced to sell, precipitating price declines

Price falls generated by sell-offs, or unexpected increases in long-term borrowing rates, would depress valuations, which might then mean owners breach loan-to-value ratio covenants on their bank debt, potentially triggering further sales and price declines.’

With stagnant wage growth, falling house prices and slow retail sales, it is understandable that the Australian economy could begin to struggle under all of that weight.

If you want information on how you could potentially protect your wealth if an upcoming financial crisis and an Australian recession were to happen, then check out controversial economist Harry Dent’s Boom & Bust Letter.

This week in Money Morning

In Monday’s Money Morning, Harje looks at how you could potentially make a 44.3% return. To generate such returns, Harje says you don’t have to always know what’s going on, on the ASX. Harje explains his method of finding stocks on the market could help you make 30%-plus returns. He explains that rising sales earnings and cash flow are characteristics of good companies and profitable stocks. To find out more, go here.

In Tuesday’s Money Morning, Harje explains how 69% of investors have failed to beat the ASX200 over the last five years, and the market hasn’t even performed that well over that time. Over the 10-year period ending June 30 2018, almost 90% of international equity funds and more than 70% of Australian equity general, Australian bonds, and A-REIT funds underperformed their respective benchmarks on an absolute basis. If ETFs lead to market distortions, why haven’t active managers taken advantage? I believe it’s because most investors don’t want to buy what’s out of favour or stocks that might take years, not months to appreciate. Go here to find out more.

On Wednesday, Harje wrote about Aussie retailers and how there is a trend in women’s fashion around active gear at the moment. He also talks about Lorna Jane’s move to expand into China. Right now, there are a handful of retailers on the ASX slowly digitising their operations. Not only will these businesses look a lot more like tech stocks in years to come. You could also make a pretty penny, betting on which ones rise to the top. It’s not hard to imagine online retail not making up a larger chuck of total spending in a few years’ time. It’s also safe to say our in-store experience could get a whole lot better with the help of a little tech. To find out more, click here.

In Thursday’s Money Morning, Harje talks about how Apple is a trillion dollar company and how its high value comes from what you can’t see, as the balance sheets show $114 billion in equity, yet the stock trades for nine times that amount. Therefore, if Apple were to sell all of their assets and pay outstanding bills, investors might only receive $23 a share. And that’s only if Apple’s balance sheet values are accurate. So why is the company trading for more than $222 a share? Where did all this extra value come from? They make about US$230 billion in sales, which is growing at about 8% a year. More than 20% of that drops into profits. And a lot of that cash Apple hardly needs. If they’re not buying back stock, then cash is accumulating on the balance sheet. To find out more, go here.

In Friday’s Money Morning, Harje explains why we could expect to see a financial crisis in 2019–21.  In a Business Insider interview, billionaire investor Ray Dalio said that although the US economy is running at full steam, rising interest rates will put a damper on activity, eventually triggering the inevitable downturn. On Wednesday afternoon, the US Federal Reserve rose interest rates again. Taking cash out of the system could cause a liquidity crisis. And it could hit us when we’re most vulnerable. The US has had years of cheap money. In that time, businesses and individuals have racked up a lot of debt. So this time when the music stops, businesses will go bankrupt and stocks will go down…a whole lot. The US may have a liquidity crisis. But that would only fly if the Fed was rapidly taking money out of the system. And right now, that’s just not the case (Harje refers to the Fed’s balance sheets).  But as interest rates rise and the Fed sell more bonds, it may cause stocks to fall. To find out more, go here.

Kind regards,

Alana Sumic,

Editor, Money Weekend

PS: Australia could be headed for a recession in 2018. But there’s a few steps you can take now to protect your family’s wealth. Find out more here.


Alana Sumic is part of the editorial team here at Money Morning. She contributes to bringing you Money Morning each day, along with all of Port Phillip Publishing’s many other publications.

As the Editor of the weekend edition of Money Morning Alana brings you a summary of the news for the week, and her own take on the week’s most important story in markets. She is also a writer and editor for Port Phillip Publishing’s political publication, The Australian Tribune.


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