Diageo more resilient than expected and EasyJet is in survival mode

“The dramatic rise in stocks like Gamestop as amateur investors rush to place orders for previously unloved companies wasn’t enough to stop US markets from slipping last night,” says Russ Mould, Investment Director at AJ Bell.

“The S&P 500 was down nearly 2.6% after the Federal Reserve flagged a slowdown in the pace of the US economic recovery, reminding investors that the backdrop remains very fragile despite some stocks delivering single day triple digit gains on many occasions in recent weeks.

“Better than expected results from Apple failed to excite the market, with its shares slipping on the day. Tesla’s shares were also weak after its earnings missed forecasts.

“European and Asian markets followed Wall Street’s lead with equities generally in the red on Thursday. The FTSE 100 slipped 1.1% to 6,493 with energy and financials among the sectors out of favour. Prudential was the biggest faller, followed by investment trust Scottish Mortgage which was dragged down by its big stake in Tesla.

“Investor sentiment seems to have been improving since November’s vaccine breakthrough and it should have been widely appreciated by the market that reopening society was never going to be a smooth process.

“Setbacks to economic recovery shouldn’t have been a surprise to investors, so it is somewhat perplexing as to why markets fell so much on the Fed’s comments. Perhaps they were a necessary reminder not to get too carried away with pricing in future earnings improvements today.”

Diageo

“Under the circumstances, Diageo’s results could have been a lot worse given the ongoing disruption to the hospitality and travel sectors as fewer people have been able to go to bars, hotels, pubs and restaurants as well as shop for spirits at airports.

“Organic growth of 1% is a positive outcome, although unfavourable foreign exchange rates mean it reports a 4.5% drop in net sales. Some analysts were forecasting 4% decline in organic sales, so Diageo is proving to be more resilient a business than thought.

“Working in its favour is a rise in alcohol sales during lockdown as people are forced to entertain themselves at home. Notably, spirit sales have held up well and pre-mixed drinks have been very popular. But longer-term Diageo really needs all the leisure establishments to reopen as they are also key drivers of premium spirit product sales.

“There are several comforting signs in its results which show the hallmarks of a well-run business. Its ability to continue to invest in marketing and product innovation will stand it well as markets reopen. It has been fast to curb discretionary spending, which is quite an achievement for a business of its size. And it is still able to generate strong enough amounts of cash to grow dividends.”

Easyjet

“Short-term pain but long-term gain is the message from EasyJet on the current headwinds facing the business.

“The emergence of new, more infectious Covid-19 variants means a recovery for the aviation sector looks further away than it did when the group published its first-half results in mid-November.

“However, by hunkering down and surviving the crisis EasyJet hopes to benefit from reduced capacity in the market as other operators, with shallower pockets, are forced out.

“The company has done a good job of reducing costs and has taken on new debt to secure its immediate future.

“However, the company is still enduring real pain, while its cost base is down a little over half, passenger numbers are some 90% lower. This is a race EasyJet is never going to win, hence the need to flex borrowings.

“And talk of pent-up demand could be moot if most of us are prevented from jetting off on holiday this summer as governments prioritise getting the pandemic under control.

“Another problem for EasyJet is that some of its rivals, namely Wizz Air and Ryanair, operate with lower costs and therefore have greater flexibility to put capacity back online when demand does eventually return.

“For now, the market seems confident air travel will eventually recover to its pre-Covid levels. EasyJet could be treated quite differently by creditors and shareholders if that assessment changes and a more permanent impact on the sector is expected.”

These articles are for information purposes only and are not a personal recommendation or advice.