Outlook remains cloudy on high street

The outlook for the high street in the critical run-up to Christmas is as polarised as whether rock chick or 1980s glamour will win out as the key fashion look for the party season.

As retailers and investors struggle to decipher the consumer mood from the latest figures delivered by the fixtures of the UK retail scene in the past few weeks - from Marks and Spencer (LSE: MKS.L - news) to Mothercare (LSE: MTC.L - news) , and Debenhams (LSE: DEB.L - news) to Tesco (LSE: TSCO.L - news) - it appears that confidence has held up better than many expected when the UK economy lurched downwards last year.

"Last year was armageddon," said Sir Stuart Rose when he unveiled M&S's interim results this week. "There were lots of people sitting on their backsides, sat on sofas, watching the TV with their mouths open...It's a year better now."

But another executive likens the mood pervading on the high street to that after the second world war - with spenders desperate for, yet unable to afford, better times. This was akin to Britons' yearning for the end of rationing.

"It feels like post-war Britain," he says.

"[Retailers] planned for the worst, and it has not quite been the worst," says Tony Shiret, analyst at Credit Suisse.

But he notes that current sales compare more favourably with those of a year ago, when sales were particularly weak.

According to BDO's High Street Sales Tracker, like-for-like sales rose 2.1 per cent in October. In the year- earlier period, they fell 3.2 per cent.

In addition, retailers are more conditioned for a recessionary climate than they were a year ago, and will have adjusted their business models accordingly.

Many ordered Christmas stock earlier this year when conditions looked bleaker. They hope this will help them escape the heavy discounts that were a feature of the high street last year.

John Lewis - which reported strong sales recently - is more upbeat about Christmas than it was six months ago. Consequently, it has increased its stock levels in anticipation of this Christmas being better than last, although it may fall short of 2007.

Another spur to spending in the Christmas run-up may be a planned increase in VAT on January 1. It is expected to revert to 17.5 per cent, although Sir Stuart said he could not rule out a higher level, nor VAT being applied to other previously exempt categories.

Terry Duddy, chief executive of Home Retail Group, which owns the Argos and Homebase chains, suggests that the new year increase in VAT could trigger bigger purchases, such as kitchens, in the weeks before the increase.

"If you are going to spend a couple of grand, you will think about it," he says.

But doubts remain, among the fashion retailers in particular.

The recent spate of warm weather has not been helpful to retailers seeking to shift stocks of coats and woolies.

Stores are now taking delivery of cocktail dresses and tuxedo jackets in readiness for the Christmas party season. If they do not start selling sweaters soon, they could be forced to discount.

Research also suggests that spending this Christmas, on items such as on gift items will remain subdued.

Mr Shiret also points out that although the run-up to Christmas last year was weak, the final few shopping days were better - spelling uncertainty for how the final big days of this year will measure up to 2008.

Mr Duddy agrees this could be an issue: "What happened last year, people held back with their purchasing right to the last four to five days around Christmas. Those are going to be strong figures."

The clouded outlook appears set to continue into next year, as consumers face the burdens of the VAT increase, as well as other tax rises, rising unemployment and a hiatus created by a general election.

A report from accounting firm Deloitte forecasts retail sales will be flat at Christmas, but down 1.5 per cent next year.

At the same time, competition in the food sector is intensifying. Food price inflation is moderating, while Tesco, whose sales have lagged behind the market this year, is fighting back. Anecdotal evidence suggests supermarkets are stepping up promotional activity. "Price competition seems to be starting earlier, with some Christmas lines being cut aggressively," says David McCarthy at Evolution.

Tesco is sending out Clubcard vouchers after it doubled the rewards under its loyalty scheme in August.

Wm Morrison will also be repeating its Collector Card promotion, offering customers who spend £40 each week for five weeks in the run up to Christmas a £25 voucher. Last year it offered a £20 reward.

Marks and Spencer and Waitrose are slugging it out for the upmarket grocery shopper. But according to Clive Black, an analyst at Shore Capital, their spat is expected to have a limited impact, accounting for just 7 per cent of the market.

"Its a bit like having a playground and two posh kids fighting. Everyone else kind of ignores them. They don't come along to the big boys and have a go at them," he says.