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Food retailers are often popular safe havens in turbulent economic times like this. Yet Tesco‘s (LSE:TSCO) share price has slumped over the past week, first on fears of the potential impact of global trade wars, and more recently on signs that the industry’s ‘price wars’ are about to intensify.
At 324.4p per share, Tesco shares were last dealing 4.4% lower on Monday (17 March). They’re now at their cheapest level since last summer.
City analysts, however, think Britain’s biggest retailer will soar in value over the next 12 months. So should I consider opening a stake in the FTSE 100 company to capitalise on a price recovery?
A 26% rebound?
As with most stocks, the price outlook for Tesco shares takes in a broad range of highs and lows. On the most pessimistic side, one analyst believes the business will fall 2.6% from current levels over the next year, to 316p per share.
At the other end of the scale, one especially bullish broker thinks the supermarket will rise 35.7% from current levels to 440p.
On the whole, City analysts are pretty optimistic over the direction of Tesco’s share price between now and March 2026. The average price target among 15 brokers with ratings on the business is 407.2p.
That represents an 25.5% premium to today’s price.
Cheap on paper
Following Monday’s drop, Tesco shares are now down a sizeable 14.2% over the past week. This means that they now trade at a valuation far below the five-year average.
The retailer’s changed hands on a trailing price-to-earnings (P/E) ratio of 19 to 20 times on average since March 2020. Today that figure sits at a far more modest 12.3 times.
To fans of the FTSE stock, such a low valuation may leave scope for a sharp price rebound.
It’s not a view I share, however. I believe Tesco shares merit a lower valuation. I also think there’s a good chance the business will continue to drop.
Huge competition
As described at the top, Tesco’s share price dropped on signs that industry competition will jump a notch or two.
On Friday, Asda — the UK’s third-largest supermarket — pledged to use its “pretty significant war chest” to invest in prices to revive sales. Price wars are nothing new in the grocery sector, but it adds extra intensity to a market already squeezed by discount chains Aldi and Lidl.
Supermarkets can choose not to chase prices lower at the expense of revenues. Or they can join the fight and watch their margins be whittled away.
This is a major concern given how thin Tesco’s profit margins already are (4.5% between March and August last year, latest financials showed).
The tough economic climate makes the threat posed by discounting even sharper as shoppers chase value. With the aforementioned German operators committed to long-term expansion, too, the problem isn’t going away any time soon.
The verdict
For these reasons, I’m not tempted to buy Tesco shares for my portfolio, even as brokers tip a sharp price rebound.
On the plus side, the firm’s wholesale and banking divisions provide good opportunities for it to grow earnings. It also carries considerable brand power and customer loyalty through its Clubcard programme.
But on balance, I think the business carries too much risk, even at today’s beaten-down prices.