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A cheap retail stock to buy now

General retail stocks have underperformed the market by around 15% in the last two years. And with the UK high street still in the doldrums, the sector could fall some way yet. But there is still value to be found, says David Stevenson. Here, he picks one defensive retailer to buy now.

Are things looking up for retailers?

Despite the current grim state of the high street, updates from some of our big retail chains revealed glimmers of optimism last week.

And in East London last week, shoppers flocked to the grand opening of Europe's largest urban shopping centre as if they'd never heard the word 'recession'.

Could it be a sign of things to come? If so, and a recovery is around the corner, share prices in the general retail sector would look cheap.

So is it time to pile back in?

The UK high street is still in the doldrums

British retailers are having a miserable summer, no doubt about it. In August, sales volumes ie the actual quantity of goods sold were completely flat year-on-year, according to official figures. The latest British Retail Consortium figures were even worse. On a like-for-like basis, sales are down 0.6%.

Sure, the riots in August didn't help. But it's clear that British consumers are no longer the engine of growth they once were. One of the main reasons for this has been the rising cost of living.

Things we need like food and fuel have been soaring in price, and our wages haven't kept up. So more money being spent on essentials means less spare cash to spend on the high street.

As Samuel Tombs at Capital Economics puts it, "August's retail sales figures have provided further evidence that high inflation is killing off any hope of a recovery on the high street".

But is the outlook really that gloomy? Not according to high street bellwethers, John Lewis and Next. Both have suffered as a result of the downturn. John Lewis saw profits fall by 18% year-on-year for the six months to the end of July. Meanwhile, Next saw profits rise by 8.5%, but sales at its UK store were down by 1.8%.

However, both firms reckon UK inflationary pressures could abate next year. That would give consumers some breathing space. According to Next, in 2012, "things are going to get a little easier it seems reasonable to assume that by the second quarter we will begin to see some recovery in the consumer environment".

Falling inflation would come with a catch

Are they right? We wouldn't be so sure. The great British public whose track record on forecasting inflation is a lot better than the Bank of England's doesn't expect price rises to ease up any time soon, as we noted last week: Watch out inflation is only set to get worse. As long as they keep expecting higher prices, they won't be in the mood to splash out.

However, even if inflation were to fall back, we wouldn't bet on it being good for the high street. It'll most likely be because demand has dropped, and the rest of the economy is heading back into a slump.

Already unemployment is rising again. In the three months to the end of July, the number of people in work dropped by 69,000. That was the first such fall this year. With the government's austerity programme set to bite in earnest, there will be more public sector job losses.

On top of that, banks (even the ones that have avoided rogue trader scandals) are rapidly shedding staff. And economic turmoil in the rest of the world can't be good for Britain's private sector either.

In short, Next and John Lewis sound like they're clutching at straws. As Tombs puts it: "The latest news on the labour market showed that the fading economic recovery is starting to impact on employment, and suggested that the renewed downturn in consumer spending is likely to deepen in the coming months".

One chain that's worth buying

Don't get me wrong. It's easy to be tempted by general retail stocks. They've underperformed the market by around 15% over the last two years. That makes them look like a 'recovery' play.

And that's what's so risky about them. The chances are that the sector could still have some way to fall.

So if you're looking to buy a retail stock that's taken a pounding in the recent market sell-off, why not stick to the tried and trusted?

We've written about supermarket giant J Sainsbury (LSE: SBRY) before (Why you should stick with Sainsbury's) so I'll not repeat all the details here. But it's a great defensive stock. It's trading below its stated net asset value for the first time in ages. And on a current year p/e of just over 10, and a prospective yield of 5.7%, it's now looking very cheap.

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