8 months ago • 4 mins
Major retailers have been giving mixed messages – but when you put it all into context, there could be a clear signal about the future of consumer spending.
✍️ Connecting The Dots
The US consumer discretionary sector is up about 13% this year, making it one of the strongest performers in the S&P 500. That’s not a total shock: the sector was one of the biggest underperformers last year, so it had plenty of room to climb. And now that the odds of a “soft landing” – an economic slowdown that avoids a recession – appear higher, investors’ replenished risk appetites have helped the sector rebound.
But the biggest question for investors is whether the consumer discretionary sector can keep outperforming, especially given the lackluster earnings from some of the biggest retailers earlier this year. That’ll largely come down to the impact higher interest rates have on consumer spending in the US, the country’s unemployment rate, and Chinese consumers’ spending. They’re all interlinked: higher rates typically dampen consumer spending within six to 12 months, so the negative impact on consumer spending may be yet to materialize. And because the odds of a recession increase as higher rates encourage consumers to save instead of spend, that simultaneously creates pressure to cut jobs for businesses that aren’t getting as much cash in the door as a result. When you add in the fact that, according to Morgan Stanley, US households spent roughly 30% of their $2.7 trillion pandemic “excess savings” last year, with many wiping out their cushion completely, the outlook for consumer spending is perhaps cautious at best.
That brings us to China. Lots of investors are hoping the country’s reopening will drive global demand for major industries like travel and retail, where Chinese spenders have historically accounted for one-third of global demand in the luxury industry. But Chinese consumers alone are unlikely to bring in the big bucks because they saved significantly less money during the pandemic. So while they’ll probably bump up demand, they probably won’t be able to prevent slowing global growth by themselves.
1. American consumers might be benefiting from higher interest rates, but Europeans are hurting.
Consumer spending has held up better in the US than in Europe, and that might be because American homeowners are actually benefiting from higher interest rates. Here’s why: US homeowners’ liabilities are largely fixed (think 30-year mortgages, for example), whereas European mortgages aren’t fixed for as long on average – and savings are high. So as rates have risen, the average American has had a bit more cash in their pocket thanks to higher interest income – and while that’s true for Europeans too, they’re more likely to have their incomes squeezed by higher mortgage costs.
2. Resurgent Chinese demand is one way to play consumer stocks right now.
If you’re tempted to invest in the consumer space, look for companies that could benefit from higher Chinese demand, like in the travel and retail space. Luxury and high-end cosmetic brands might also see strong demand as Chinese travel routes to the US and Europe get booked up again. And with that bounceback in demand likely to cause inflation, look out for companies with strong pricing power too: they should be able to maintain growth and profit margins, even during high inflation and slow growth. They tend to compete in concentrated industries and make products that deliver more value than they cost – think consumer staples giant Coca-Cola, as well as McDonald’s and Starbucks.
🎯 Also On Our Radar
British investment management firm Rathbones announced last week that it’d buy the UK wealth management business of rival Investec for $1 billion. It’s the latest sign of investment managers teaming up to combat the rising costs of regulation, technology, and operations. If the industry shrinks too much, though, customers will have fewer choices and, most likely, higher fees.
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