Even as the U.S. economic recovery party has gotten rolling, many of the attendees have been sneaking glances at the door, nervously awaiting the arrival of the U.S. consumer. Turns out he may already be in the room.
True, the growth in overall U.S. consumer spending has been sluggish. Year-over-year percentage increases, while on the rise, are still less than half what the consumer sector consistently enjoyed before the recession. However, spending on discretionary goods and services - those non-essential purchases that we love to splurge on in happy times but that we sacrifice when we're tightening our belts - has bounced back sharply in recent months, and in January reached its pre-recession peaks, according to data released this week by the U.S. Commerce Department.
NOT SO EXPENSIVE
In a research note this week, National Bank Financial chief economist and strategist Stéfane Marion suggested this recovery in consumer spending bodes well for stocks in the U.S. consumer-discretionary sector - despite that fact that the group has already been a massive outperformer during the market's recovery. (S&P 500 consumer discretionary stocks are up 83 per cent over the past year, ranking second only to the financials sector.)
The S&P 500 consumer-discretionary group is trading at roughly 16 times its forecast 2010 earnings, running ahead of the overall market's price-to-earnings multiple of about 14.5 times. But that's still a bit on the low end historically for the group (it was typically in the 17-20 range for much of the past decade), and would look more than reasonable as consumer spending growth inches back toward a more normal historical pace.
Based on historical trends, too, a further recovery in year-over-year spending growth implies further upside to consumer-discretionary stocks. Over the past several years, price movements in the S&P 500 consumer-discretionary index have closely mirrored growth in consumer spending.
ESTIMATES TOO LOW?
How likely is it that consumer spending will continue to improve? Given that discretionary spending staged its remarkable comeback despite a weak jobs market, still-depressed housing sector and tight credit conditions, Mr. Marion believes there could still be healthy upside - which suggests to him that analysts may be undershooting on their earnings forecasts.
"In our view, the bottom-up consensus … is conservative," he said. "If firms soon resume their hiring process - as we expect - do not be surprised to see upward earnings revision."
Upward revisions would serve to increase the earnings side of the price-to-earnings equation - thus making current stock prices look more attractive relative to earnings.
David Parkinson