Tesco PLC (LSE:TSCO) and Kingfisher PLC (LSE:KGF) have been upgraded by Jefferies as falling energy prices are likely to be beneficial to the UK retail sector in more ways than one.
The ongoing deflation in energy prices "means less pressure" on the sector, the bank said in a note on Monday, with UK consumers having displayed "strong resilience" in the face of the peak of inflation and there is now "potential to transition through a shallow contraction".
Tesco is seen as likely to benefit from more consistent free cash delivery as it was around a year ago when the consumer downtrade trends first accelerated in the wake of the invasion of Ukraine.
Tesco's focus on 'assortment optimisation' should help optimise in-store mix dynamics, the analysts said, and reducing margin pressures in the second half "should provide investors with improving confidence" on free cash delivery "and with it should come some rerating from a low bar".
On B&Q and Screwfix owner Kingfisher, it "displays the greatest valuation/forecast upside" on current cost inputs, and hence inspires "extreme bearishness".
There is an overhang from the short-term UK housing outlook but the analysts are encouraged by the City seeming to be "ignoring" that a completion of the final fixes to French brands Castorama and Bricot Depot in the previous second half "should pre-empt ongoing build in profitability".
Furthermore, KGF's earnings carrying a mid-single-digit dilution from its investment in building future 'growth levers', with Screwfix France showing promise, while investor sentiment is "at its sector worst".
Jefferies retail team kept an 'underperform' rating on B&M European Value Retail SA (LSE:BME) and 'hold' ratings on Next PLC (LSE:NXT), Marks and Spencer Group PLC (LSE:MKS), Associated British Foods PLC (LSE:ABF) and J Sainsbury PLC (LSE:SBRY).