Retailers face a bleak Christmas – but you can profit from the gloom

Sorry for mentioning you-know-what, but it’ll creep up sooner than you think – in just over 11 weeks, in fact.

This Christmas will be a bleak one for Britain’s ailing high street, says insolvency and recovery specialist Begbies Traynor (LSE: BEG). Worries over jobs mean consumers are more cautious, which means falling sales.

Begbies says there’s been a dramatic surge in the number of retailers facing “critical financial problems” ahead of the festive season. Its “red flag” early warning system shows a big increase, to 125, in the number of retailers encountering major difficulties in September. That’s up 37% compared both with August and the average for the previous three months.

“Despite the shake-out that’s already seen many thousands of shops boarded up with no prospect of being re-opened any time soon, the latest red flag figures suggest Christmas 2009 could see just as many retail casualties as last year”, says Begbies Traynor’s Nick Hood. And businesses with lots of debt and without a solid online offering, selling non-essential discretionary items, face the most risk.

Of course, the problem has been building for a while. As the chart below shows…

…UK lending growth (the green line) has slowed sharply this year, while household consumption (the mauve line) has collapsed. The latter is now down 3.6% year-on-year. With HSBC boss Michael Geoghegan warning yesterday that a second leg to the economic downturn is on the way – a ‘W’ shaped recovery rather than the ‘V’ that the stock market is pricing in – there’s likely to be more of the same. Keeping well clear of most retail stocks looks sensible.

So what should you buy instead? Well, Begbies looks a much better bet. First-quarter performance was “significantly ahead” of last year, driven by the growing insolvency business which accounts for 80% of group revenues, according to last Friday’s AGM statement. Encouragingly, the non-insolvency divisions – tax, corporate finance and forensic – are trading OK, too.

The stock has dropped 10% since our February recommendation: Seven companies that will prosper in the recession, but on only just over ten times next year’s earnings, it’s clearly cheap. We’d stick with it as a ‘buy’.