Health of the retail sector expected to be strongest in 2 years

December 31, 2021 John

Health of the retail sector expected to be strongest in two years as festive shoppers look to enjoy Christmas – but consumer confidence sits on a knife edge warns Retail Think Tank.

Retail health in Q4 could finish as the highest since Q3 2019
Growth slows from strong Q3 to Q4 suggesting a downwards trajectory for 2022
Uncertain outlook for 2022 if consumer confidence falls and Covid restrictions increase, as costs continue to climb for the retail sector

The final three months of 2021 could see the health of the retail sector end the year in the strongest shape it has been since before the pandemic, according to the latest retail health assessment by KPMG/Ipsos Retail Think Tank (RTT) members.

Whilst there are still two weeks of the quarter to go and concerns around the Omicron variant are rising fast, the RTT believe consumers will continue to spend their way to Christmas, ending the year in strong health for what could be a challenging new year.

The buoyant golden quarter so far has been driven by consumers shopping earlier to grab festive gifts, determined to enjoy Christmas this year. Continued strong consumer demand has offset rising costs and driven strong margins, to see the Retail Health Index (RHI) grow by 1 point in Q4 21 to 75 points, a score last recorded in Q3 19 – months before the pandemic hit.

Substantial rising costs across every element of retail from wages to logistics and energy have been offset by strong consumer demand in the run up to Christmas, with many retailers as a result, experiencing gross margin improvements and some even upgrading profit forecasts.

Whilst non-food categories saw a shift away from the household goods buying towards fashion, which has seen strong growth so far in the final quarter of this year, food demand has eased. However, it is expected to grow in the final weeks of this month, particularly demand for premium labels as consumers shop for top quality items for family feasts over the festive period.

The RHI found that growth in Q4 21 had slowed slightly on the back of a strong Q3 21 – indicating a downward trajectory as we head in to 2022.

Commenting on the RHI for Q4 21 Paul Martin, Head of Retail at KPMG in the UK said:

“The retail reset caused by the pandemic has seen retailers learn a lot over the last two years. Many of the weaker players in the market have now gone, and the benign gross margin environment has led to more promotional discipline across the rest of the sector. As a result, despite the rising cost agenda, the industry is much healthier than it was two years ago.

“The health of the UK retail sector continues to grow, driven by strong consumer demand as households are determined to enjoy Christmas celebrations this year despite concern over rising infection numbers. Many households are sitting on savings accrued during various lockdowns, and happy to spend now that restrictions have been lifted. However, should consumer confidence start to wane, those unavoidable rising costs which are a sticking point for retailers, could see the health of the industry deteriorate quickly, across successive quarters in 2022.”

Macro conditions could see retail health decline in Q1 22

The RTT predicts that retail health will remain flat in the opening quarter of 2022 – if consumer confidence levels and demand continue as they have this year. The high consumer demand which has cushioned retailers in previous quarters is all dependent on households continuing to feel confident in their spending power. Moves towards further restrictions in January could derail retail recovery, particularly the sales revival in the fashion sector.

Whilst consumers continue to accumulate savings, with a total of ‘excess savings’ now estimated at around £163 billion since the start of the pandemic, the end of the universal credit uplift, rising inflation, potential interest rate hikes and rising utility prices could all impact consumers’ willingness to go out and spend. Rising wage growth could keep inflation higher for longer and this coupled with continued increasing costs for retailers, could see the health of the industry deteriorate in the opening months of 2022. Retailers who have so far not passed rising costs on to consumers may have to absorb these for longer, resulting in margins also being squeezed in Q1 22.

KPMG’s latest UK economic outlook forecasts the reintroduction of social distancing restrictions in retail and hospitality venues (with no closure of retail or lockdowns triggered and schools remaining open) could see the economy contract by around 2% in the first quarter of 2022 before growing by a similar rate in the second quarter if most restrictions are lifted.

According to the RTT, Q1 22 is a big inflection point for the RHI going forward depending on consumer confidence in the new year. The last time the RHI fell due to the impact of inflation on consumer confidence, was over a decade ago in Q1 11 where it then continued to fall for eight successive quarters and dropped quite quickly.

Commenting, Paul Martin said :

“Continued consumer demand is absolutely vital as we head into the new year to offset the rising costs that retailers are likely to experience for a while and to keep the industry in good health.

“Retailers have worked hard to manage those factors that have been in their control over the last two years and adapt to the changing environment, but there are many macro factors outside of their control that could hit the sector hard next year.

“Given the ongoing Covid situation, it is highly likely that the demand that has cushioned retailers over the last few quarters will reduce and the broader macro situation could also play against the retail health index in Q1 22. It wouldn’t take much for Q2 and Q3 to also deteriorate if consumers choose to sit on savings to weather the storm.”