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Weekend reading: The UK consumer is on the brink

Weekend reading

My musings, then some good reads from the web.

Something remarkable has happened. The UK consumer has finally woken up to the financial crisis, the public deficit, spending cuts, and tax rises.

Now I’m not saying there’s been no pain in the UK in the past three years. Jobs have certainly been lost, and some have already seen the loss of publicly-funded benefits and perks. And it’s easy to forget here in London that house prices more nationally have actually fallen about 20% – in a sustained way – in some areas such as the North and Wales.

But in general, the UK consumer has been remarkably resilient.

When I wrote early last year about how the UK was booming, I was thinking mainly about our export economy — the rapid upswing in manufacturing and a recovering financial sector. I admit I didn’t appreciate the extent to which lower mortgage payments meant that far from struggling, the great majority of UK households had even more money to spend.

Theoretically, that is still the case. But something seems to have changed with the VAT rise that came in at the start of the year – perhaps abetted by the arctic snow that closed down UK high street for Christmas. Having gotten out of the spending habit for six weeks, the UK consumer may be going cold turkey.

Retailer after retailer has been reporting plunging sales, with Dixons, Mothercare, and John Lewis the latest to stumble back to command with a bloodied casualty report in hand. One analyst says today in the FT:

“This is the worst I can remember seeing in about 30 years. Since the middle of January more or less, retail has fallen off the edge of a cliff.”

Reasons abound. Beyond that VAT rise, there’s the shocking statistic that real disposable incomes in the UK have fallen for the first time in 30 years. And good luck boosting your salary by getting another job:

News that staff turnover has hit a five-year low is hardly surprising when you consider the state of the UK labour market. People with household bills to pay are not going to leave their jobs until they have a decent job to go to.

Unemployment is rising, public spending cuts are on their way, and those companies which are increasing output are simply increasing overtime rather than hire new people.

The other shoe to drop, as our American cousins inexplicably say, could be renewed pressure on house prices, with the Bank of England warning that loan defaults are rising:

The Bank predicts the total number of mortgage defaults will rise during the next three months as fears intensify that the cost of living will remain high and interest rates will rise.

In its Credit Conditions Survey, it suggested that lenders were concerned about “the potential impact of increases in interest rates on default rates”.

Now I am not one of those bloggers who regularly writes doom and gloom stories. In fact, I’ll admit to being surprised by how quickly the UK consumer seems to have turned. After a while, you start to wonder if the bell really tolls for the Spend Now, Pay Never population.

House prices plunged in the US and unemployment soared, but not here. Ireland’s ridiculous credit boom and four-fold increase in house prices took it to the edge, but London prices are now nearly back to the peak. Other poster children of the good times like Iceland and Spain have also clearly suffered. Only the UK and Australia seem to have escaped the hangover.

In Australia’s case, that’s not hard to understand: the country is stuffed full of resources in the middle of a commodity surge, and the population is relatively small.

But the UK has dwindling natural resources in the North Sea, and while its main driver of growth – the financial sector – got back on its feet faster than any predicted, it’s still not close to covering over the gaping hole its collapse left in the nation’s finances.

No, I think the average UK citizen has simply willed away a worse slump. After well over a decade without a recession and with huge swathes of the population made heady by soaring house prices and easier money from the public purse, they didn’t think it could happen here – and for several years that self-belief has been self-fulfilling.

It’s probably too soon to be sure the chickens have come home to roost. Much of the pain in the spending cuts is pushed out into the future (such as changes to retirement ages, and shifts to the inflation measures used), and I’m doubtful whether most people are aware of them. And while taxes are rising and curbs to easy money like child benefits for the middle classes and over-generous housing benefit – not to mention persistent inflation – is now clipping consumers’ spending power, interest rates are still low, which is acting like a daily soothing infusion of morphine into a sickly patient.

From an investing standpoint, one thing I’d urge is you don’t take the UK stock market to be a proxy for the UK economy. Around three-quarters of the earnings of the FTSE 100 are generated overseas, and the rest of the world is doing fine. Having swallowed some painful medicine via a proper house price crash, even the US is finally on the mend – a recovering consumer appetite there could keep company earnings headed higher for years.

As for the UK, it seems to me we’re in the midst of a moment akin to when somebody turns on the lights at a house party or in a sweaty nightclub, and for a moment you see what the party really amounts to.

But whether we’ll have the morning after the night before or else switch the lights back off and resume our unending weekend-bender remains to be seen.

From the money blogs

Money Maven roundup

Mainstream media

  • The history of US finance [graphic, eventually]FT Alphaville
  • How the US spots future world leaders – BBC
  • Neil Woodford: Some shares are ‘ludicrously’ cheap – Motley Fool
  • Junior ISAs: A sophisticated gimmick – Merryn/FT
  • Last-minute tax planning before April 5th – FT
  • Push for pre-contracts in UK homebuying – FT
  • Universal state pension looks like being £155… – Telegraph
  • …but will you get the pension you deserve? – Independent
  • Ignore mortgage early repayment charges at your peril – Independent
  • Last-minute top-paying ISAs – The Guardian
  • The Spanish holiday home collapse continues – The Guardian

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{ 17 comments… add one and remember nothing here is personal advice }
  • 1 ermine April 2, 2011, 4:43 pm

    > average UK citizen has simply willed away a worse slump

    How did they do it? Is it all explained away by the paltry interest rates on some mortgages? So many Brits remortgage every two years so they’d be struggling now. Do they have awesome lines of credit? It’s like the roadrunner cartoon when he runs off a cliff but only takes the dive when he looks down! I’ve been expecting mayhem out there for ages but it just doesn’t happen, there must be some very well-stuffed mattresses in the country.

  • 2 An Admirer April 2, 2011, 6:38 pm

    >> And it’s easy to forget here in London that house prices have actually fallen about 20%

    Oh really, where? I still see greed abound. A flat I used to rent in zone 2 sold for £600k in the 2007 peak and was last month put on the market for £875k.

    If you mean in “real terms” then even 20% seems high.

  • 3 Salis Grano April 2, 2011, 7:28 pm

    Yes, but no, but . . . I ambled down to the local shopping centre this morning to pay in a cheque (too tight for postage!) and it was busier than I’ve seen it for a few weeks. My London borough is often cited as being in the bottom decile of English authorities, wealthwise, but I am amazed to see how many families tip out of bed on a Saturday morning and fetch up at the, frankly not very attractive, concourse cafe and have breakfast. Okay, it’s only £5 or so per head but there is clearly a bit of financial slack still. On the other hand, maybe they still don’t get it.

  • 4 Tim April 2, 2011, 7:40 pm

    Comparatively speaking, we still have very generous welfare payments. This helps those at the bottom. They have little financial nous and spend money as it comes in. Financial slack is a built in mentality for those living off the welfare state.

    The reason things have dropped off a cliff is because of inflation. People are not seeing value for money. Until now, the 50+ mortgage-free, cash rich folk have propped us up. I have no doubt there are still some very welsh stuffed mattresses out there, but these cash rich people were brought up in an era when debt was less socially acceptable than now. They live off income, not debt, and want to feel as if they are getting a bargain – and at the moment, that isn’t happening.

    Two ways out 1) lower inflation, allow people value for money. Cash rich folk will spend again and the squeezed middle will feel less squeezed. OR 2) Highly accessible credit.

    I’ll take the sustainable option. Short term pain, long term gain. Get those interest rates up!

  • 5 Tim April 2, 2011, 7:41 pm

    er. Well stuffed – not welsh stuffed. 🙂

  • 6 The Investor April 2, 2011, 7:45 pm

    @An Admirer — Yes, that’s what I mean. In London it’s easy to forget prices have actually fallen in the rest of the country. I totally agree London prices have defied the slowdown, that’s part of my point. 🙂

    Have added a word or two to the article text above to try to be a bit clearer.

  • 7 Marc April 3, 2011, 1:50 am

    I see those numbers and just cannot comprehend the madness that manages to ascribe that sort of value to a small flat. It amazes me that sufficient people can can “afford” it in order to inflate house values so much, but I suppose they can – otherwise the prices wouldn’t be so obscene.

    I was visiting Munich a while ago, and a local said the situation was the same there.

    Well, I rather like Newcastle, and although the prime areas are very expensive too, they aren’t disgustingly so.

  • 8 Jamie April 3, 2011, 2:56 pm


    I look forward to reading your site every Sunday.
    Blackrock UK has an emerging markets index tracker. Do you have any views on the fund.


  • 9 The Accumulator April 3, 2011, 6:53 pm

    Hi Jamie, I’ve looked into these Blackrock funds before. Last time I checked, they were only available on the Skandia platform. Skandia’s charges rendered the otherwise tasty looking TERs moot.

  • 10 Lemondy April 3, 2011, 10:48 pm

    @ermine I would guess it is all about mortgage payments. My thesis:

    I don’t see a gloomy story here for consumers; the gloom is for those who own equity in UK retailers. Real earnings have been squeezed because companies have maintained their profit margins by hiking prices at the expense of customers and employees. There is surely a direct cause/effect relationship there. It’s worked because the cost of housing has dropped for so many, meaning a huge increase in disposable income.

    The cost of housing has been moving in the other direction for a good few months: mortgage rates are slowing rising. Disposable income will inevitably shrink. What gives next is profit margins; when the Next’s of this world cut their fat 15% take down to a Tesco-like 6% we’re all better off. (At least if we shop in Next)

    -> Lemondy. “Everything points to disinflation”

  • 11 Lemondy April 4, 2011, 2:46 pm

    Hadn’t seen that Blackrock fund series before. I appear to be able to buy that at Interactive Investor, which uses the Cofunds platform (it’s available in the order system anyway):


    Quoted TER is good but I can’t find much info on this on the Blackrock web site (maybe they don’t want to advertise this too much!)

  • 12 Martin April 4, 2011, 4:55 pm

    Blackrock index tracking funds appear under the Collective Investment Fund (CIF) section of the Itermediaries part of the website. If you look at the propectus at http://www.blackrock.co.uk/content/groups/uksite/documents/literature/1111092015.pdf there are two classes of share: A and D. I’m guessing the former is aimed at retail investors, and the latter at high worth/institutional investors.

    A Class

    Initial Charge = 5.00%
    Bid/Offec Spread = 6.04%
    TER = 0.69%

    D Class

    Initial Charge = 0%
    Bid/Offec Spread = 1.04%
    TER = 0.32%

    Guess which class is available on iii?

  • 13 Lemondy April 5, 2011, 9:48 am

    @Martin The bid/offer spread is supposed to include the initial charge for unit trusts, and II claim to not pass through the 5% initial charge, so that should fall out to a c. 1% loading.

    That is not perfect, but you get a lower TER than the L&G fund (1%) or the iShares ETFs IEEM or SEMA (0.75%), and you pay a non-zero spread plus dealing costs for the ETFs too.

    I’ve stuck in an order for £20 of MYEMKT, will sell and report back on spread. (If I get rich on this I’m going to retire next week, if I go broke you will all have to send me food parcels)

  • 14 Lemondy April 6, 2011, 10:19 am

    I paid £1.243 per unit on a day the published spread was £1.233/£1.305; a 0.8% spread.

    By contrast buying SEMA.L has approx 0.4% bid/offer spread and dealing fees to buy and sell. IEEM.L has a much tighter 0.1% spread but you will get charged to reinvest divis.

  • 15 Martin April 7, 2011, 6:40 pm

    Lemondy, thanks for reporting back – I’m pleased to see you managed to avoid bankruptcy!

    I was all set to invest in the Blackrock fund until something in the January 2010 annual report caught my eye, ‘This fund looks to replicate the risks and return of the benchmark though it is not a pure index fund’. Looking at the country allocation there doesn’t seem to be any investments in India or Russia, but there is a substantial one of 20% in the USA.

    Hmm, last time I looked the US wasn’t an emerging economy. If you look at the breakdown of American investments, you can see they’re all Indian and Russian companies listed on the US stock market. Whether this indirect method of investing in some emerging economies makes much difference to the funds overall performance I don’t know, but it doesn’t seem to be a ‘proper’ index tracker. The L&G fund looks like real thing – at least as far as I can tell.

  • 16 The Accumulator April 7, 2011, 9:47 pm

    Great work Martin and Lemondy. It is competitively priced but it’s ISA hostile too. Most of the Emerging Market ETFs out there and Vanguard’s equivalent index fund track the MSCI Emerging Markets index. L&G tracks the FTSE All World Emerging index and that’s what Blackrock say MYEMKT tracks too. Be interesting to check how closely it hugs the index and compare that with the job (not to mention the returns) that its rivals are doing.

    Think I’d rather track Russian companies that have to satisfy US stock market regulations. Here’s my favourite spine-chilling quote from the Vanguard Emerging Market prospectus:

    Russian Markets Risk: which is that there are significant risks inherent in investing in Russia. There is no history of stability in the Russian market and no guarantee of future stability.

    Can’t believe I have a favourite quote from a fund prospectus.

  • 17 Lemondy April 12, 2011, 10:49 pm

    I tried to sell and get my £19.83 back into cash, but the II web site breaks when you try to enter a sell order for this fund. Another oddity for this fund! I’ll have to phone them up and try selling at some point.

    I think the fuzzy language on index tracking is normal for indices where funds never actually buy *everything* in the index, they often have a long tail of tiny weightings in much less liquid equities. Not worth a £200m fund buying £10K in anything 😉

    Holding ADRs is also pretty common; two ADRs in IEEM’s top 10 holdings: http://uk.ishares.com/en/rc/products/IEEM/holdings and you see lots of this in US ETFs investing in non-US markets.

    @TA I bought this in my ISA, what makes it ISA hostile? I like the Vanguard quote, it does make Russia sound exciting 🙂

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