Mothercare and Carpetright: How to avoid the riskiest retail stocks

Britain’s retail sector has given us some decent share price performances in recent years - including the likes of Asos, Boohoo, JD Sports, WHSmith and even B&M. But it’s also given us a few slow-burning failures.

For those companies that have adapted and positioned themselves to cash-in on changing consumer trends, the results have been impressive. But for those that were outmaneuvered, out-competed or just too outdated in the face of shifting buying patterns, it’s been a blood bath.

News this week that the baby goods chain Mothercare is putting its UK business into administration is surprising in some ways, but not others. For many years Mothercare was a right of passage for young families. It’s a British brand held in high esteem and a lot of us have some affection for it. But in the age of the internet, that isn’t enough. While Mothercare was well-loved, fewer and fewer new parents ever considered shopping there.

As a result, Mothercare has spent years fighting for its survival. Competition from supermarkets and online retailers has been ferocious in the babycare market. It was hamstrung by its large, out-of-town stores and didn’t offer the easy online shopping and rapid deliveries demanded by its internet-savvy demographic. Hints earlier this year that it might be turning a corner turned out to be a mirage.

In Mothercare’s international business, where it just supplies goods to franchised stores, things haven’t been as bad. Its solid, well-respected brand has done better abroad than at home, and this is now the focus of what’s left. Efforts to reinvigorate the international side of Mothercare are underway. However, as an investment, it’s very much in the kind of distressed territory where you’ll only find hardened value investors.

Another retailer facing crunch decisions this past week has been Carpetright. As a specialist in floorcoverings, Carpetright is different to Mothercare but there are some similarities. As it stands, the firm seems to think its best chance of survival lies in its biggest debt provider taking it private - something that would crystallise the collapse for equity holders.

Like Mothercare, Carpetright has been on the ropes for a while. Lacklustre consumer demand and a predatory, well-financed competitor - Tapi - have made life difficult. For investors, the future for this stock looks threadbare to say the least.

Despite catering to different markets, the slow-burning declines of Mothercare and Carpetright actually result in very similar 5-year price charts. From a peak of around 241p in mid-2015, Mothercare’s shares have fallen by 95 percent:

By comparison, shares in Carpetright were trading at 524p in the summer of 2015, but have since fallen by 99 percent.

The similarities between these charts is striking - but both tell the story of retail stocks that consistently failed to turn around their fortunes.

What were the warning signs?

Another similarity shown in these two charts is how the exposure of both shares to the factors of Quality, Value and Momentum gradually deteriorated over time (which is reflected in their StockRank charts).

Back in 2015, both were in apparently good shape. Their overall StockRank scores were in bullish territory. But within a year, things had changed for the worse.

Mothercare - StockRanks July 2015 - July 2016

In both cases, their StockRanks were underpinned by high quality and strong momentum - the classic profile of popular and potentially expensive High Flyer shares. But a year later, in July 2016, the StockRanks had inversed, with quality and momentum declining and the Value Ranks rising sharply - a sign of potential Value Traps.

Carpetright - StockRanks July 2015 - July 2016

As markets drifted through 2016 ahead of the EU referendum, neither of these shares benefited from the uplift in equities that followed in the months afterwards.

The trend in both cases was that the financial and business quality of each company, the attractiveness of their valuations and the strength of their price momentum all declined between 2016 and 2018. These were signals that both Mothercare and Carpetright were facing significant and very hard to solve problems Today they have overall StockRanks of 14 and 18 respectively.

Retail winners and losers

Based on relative price strength over five years, these stocks feature at the very bottom of the pile when measured up against other retail shares. Others that have lost the love of the market include firms like Moss Bros, Sosandar and Laura Ashley. With StockRank Style classifications tending towards “Value Traps” and “Sucker Stocks”, these kinds of shares currently lack the kind of good quality and momentum characteristics that you’d ideally be looking for.

But at the other end of the price strength scale, the strongest performers in retail have delivered excellent returns in recent years - proving that stock pickers can do well in this sector. Typically, these shares have the profile of high quality, strong momentum stocks that are categorised as High Flyers. They currently range from high street players like JD Sports and WH Smith to online firms like Ocado, Boohoo and Asos. This retail screen can be found here.

With Christmas on the way - together with an election and whatever Brexit brings - British retailers are going to be closely watched over the weeks and months ahead. Some stocks in this sector have produced excellent returns for shareholders in recent years. Their defining profiles tends to veer towards high quality and strong momentum. But for others, the brutal environment on parts of the high street and dramatic shifts in the way people shop, have proved debilitating. The declining force of chains like Mothercare and Carpetright show just how wary investors need to be.