An index-linked gilt is a form of government debt where the level of interest paid is linked to inflation expectations. It is the nearest thing to a measure of real interest rates available (the nominal rates you see quoted by banks do not take into account inflation). When real interest rates rise, the net present value of future earnings falls. The shares of growth companies trade on the value of expected future earnings.
History shows that a one-percentage point rise in index linked yields is associated with a 40% fall in technology stocks and a 60% fall in telecom stocks. Yields hit a five-month high of 1.9% this week, and there’s good reason to believe they could go higher yet as interest rates rise around the world. Rising UK inflation could cancel out this effect, but if UK inflation was to fall, it would be a nightmare scenario for growth stocks.
Kesa, the owner of Comet electrical stores and the French chains But and Darty, has boasted impressive sale growth over the first three months of the year. Underlying sales at Comet were up 4.4% and the whole group reported a 5.2% increase. But should the shares trade on a premium to Dixons? Probably not.
Kesa shares trade on 12 times earnings per share, while Dixons trade on 11 times and offer a noticeably higher dividend payment. Both companies expect a mini-windfall from football fans buying flat-screen televisions upon which to enjoy the Euro 2004 tournament.
Cadbury Schweppes needs to tackle the increase furore of obesity. Its shares have had a great run, outperforming the market by 10% over the last year. Chocolate sales over Easter were excellent, and fizzy drink sales in the US, where Cadbury makes most of its profit, are picking up too. At the company?s annual meeting, chairman John Sunderland called on consumers to take responsibility for their own eating habits, but the current fuss could well weigh down on the company?s shares, regardless of the merits of the arguments.
Robert Wiseman Diaries, which earlier this month was promising investors it would win more business, has lost a whipping £70m contract with Asda. The Wal-Mart owned supermarket has shocked the food sector by dropping both Dairy Crest and Robert Wiseman and choosing Arla as its sole supplier. Robert Wiseman shares fall 19% while Dairy Crest lost 4%.
The contract represented 15% of Robert Wiseman?s milk output but 3% of Diary Crest’s. Food analysts reckon Asda has taken an incredibly risky step. Milk is delivered daily straight from the processor, so Asda will have no fall-back if Arla has any problems.
The worry is that if supermarkets are prepared to go with one supplier for milk, they could do the same with other processed products. Most food processors would not welcome being overly reliant on one powerful customer. Arla shares look good value but Robert Wiseman will struggle to replace the lost volume and must cut costs. Its share are fairly priced at best.
NXT, the British company that has developed technology to turn flat surfaces into loudspeakers, has announced three new deals in as many days. Sports car manufacturer TVR is going to use its speakers, materials group 3M has turned its technology into something that can precisely sense vibrations, rather than cause them, and created a new touch-screen product, and QinetiQ is going to put its speakers in aeroplane cabins.
NXT shares are much loved by private investors, and the shares leapt well over 50% during the week. These deals are clearly very encouraging, but they are not the mass-market applications that will bring NXT the royalties its needs to reach profitability. That will require use in mainstream cars, mobiles, TVs and computer screens. Those deals may come, but investors should be wary of the shares, which have a tendency to get over-excited.