Consumers are likely to ramp up their spending in the coming year, as the widespread distribution of Covid-19 vaccines restores some normalcy to people’s lives. That would benefit consumer-discretionary companies, adding to their already substantial stock market gains this year.
The S&P 500 Equal Weight Consumer Discretionary index, which includes names such as
(GM), is up 109% since the market’s March 23 low, compared with a gain of 65% for the S&P 500 index. The former is considered to be fairly representative of the state of the U.S. consumer because it isn’t market-cap weighted, which means the $1.58 trillion
(AMZN) doesn’t have an outsize impact.
Still, the index doesn’t tell the whole story, as it encompasses pandemic winners such as e-commerce companies and fast-food chains, along with lockdown losers such as cruise lines and bricks-and-mortar retailers.
Consumer spending rebounded sharply earlier this year along with the bounceback in the U.S. economy, which has enjoyed a so-called V-shape or K-shape recovery. Spending is now down only about 1% or 2% from pre-Covid levels. But with restrictions on things like live sporting events, theme parks, and travel, there’s still plenty of pent-up demand.
Consumers could be sitting on plenty of cash to fund postpandemic discretionary purchases, too. Consumers saved about 13% of their incomes in October; that’s down from 20% in the summer, but still well above the long-term average of 7%, says Morgan Stanley. Overall since March, consumers have saved about $2.2 trillion, RBC Capital Markets calculates, equal to about 10% of U.S. GDP.
Many on Wall Street expect consumers to unleash their spending, thanks to anticipation for more fiscal stimulus and the widespread distribution of Covid-19 vaccines over the coming months. That would likely provide a larger benefit to the consumer-discretionary sector compared with consumer staples, which people tend to buy regardless of how well the economy is doing.
Better yet, the sector doesn’t yet look pricey. “Consumer discretionary, exclusive of internet, is now one of the most undervalued sectors,” wrote RBC Capital Markets chief U.S. equity strategist Lori Calvasina, in a note. Among consumer-discretionary stocks, Morgan Stanley’s chief U.S. equity strategist, Mike Wilson, says the bank has a preference for reopening plays.
Large-cap consumer-discretionary companies have seen their earnings per share estimates fall harder than for the broader market, suggesting that the sector’s earnings could rebound faster in a recovery. Forward EPS estimates for the sector had fallen 83% between December 2019 and September 2020, before rebounding after third-quarter earnings beats. That compares with a 34% drop in EPS estimates for the S&P 500 index over the same period.
Small-caps are attractive, too, says Christopher Harvey, head of equity strategy at Wells Fargo. “Expect smaller caps and cyclically oriented stocks to have a stronger earnings recovery, as they saw more powerful recessionary impacts,” Harvey wrote in a note.
Evercore’s “economic recovery portfolio,” which focuses on names that can outperform the market in a recovery, highlights companies with close ties to the consumer, such as Walt Disney (DIS),
(CPRI). Other stocks on the list include more technology-focused names, which are slightly less correlated to changes in the economy, such as
(AAPL), Amazon, and
Given the earnings momentum among economically sensitive companies and rising confidence about a reopening economy—not to mention the likelihood of more fiscal stimulus—consumer-discretionary stocks could offer more upside for discerning investors.
Write to Jacob Sonenshine at email@example.com