Booming U.S. Validated as Investors See Busy Consumers

By Oliver Renick and Craig Giammona

Americans are spending again and investors know it.
After almost a year of favoring funds that focus on necessary goods, investors have been piling into funds that gain as U.S. consumers spend money on nonessential purchases like clothes and cars. Shares outstanding in an exchange-traded fund tracking the industry have climbed 28 percent in the past two months, compared with an 8.9 percent increase in shares of a similar fund tracking consumer-staples stocks.
Appeal for discretionary stocks began building in November amid data showing the U.S. economy was expanding faster than forecast. The fund flows show investors are confident that an expanding U.S. economy, stable job growth and lower gasoline prices will lead consumers to spend more, according to Omar Aguilar, chief investment officer of equities at Charles Schwab Investment Management.
“The changes into discretionary reflect the strength of the
U.S. economy with improvements in the labor market and the overall pricing of houses, and the extra cash as a trigger of low oil prices,” Aguilar said in a phone interview from San Francisco. “Consumer staples are more defensive and more on the flight to safety, and cyclicals are more on the growth pattern.”
In the past two months, investors have added 26 million shares to the Consumer Discretionary Select Sector SPDR Fund, compared to 17 million to the fund tracking consumer staples. Investors added money to the consumer discretionary ETF for five straight weeks from Nov. 7 to Dec. 12, the longest streak of inflows to the fund since December 2012.

Bullish Options

The number of bullish positions in options tied to the consumer-discretionary fund relative to bearish ones is the highest since 2005, according to data compiled by Bloomberg. Open interest in call options surpassed that in puts for the first time since 2006 on Nov. 7. Investors have favored bullish options on all but two days since.
An S&P 500 index of consumer-discretionary companies from Walt Disney Co. to Amazon.com Inc. gained 322 percent between March 2009 and the end of last year, for the best performance among 10 major groups.
While consumer-discretionary shares stumbled earlier in the year, falling 5.5 percent through Oct. 15 compared with a 3.5 percent gain for consumer staples, they have rallied 15 percent since then, outpacing the other group by 5 percentage points.
Since the end of October, investors have added $2.5 billion to ETFs tracking consumer-discretionary stocks, reducing outflows for the year to $224 million. They have added $4.5 billion to consumer-staples ETFs in 2014.

Retail Sales

“Staples, however highly priced, have done very well and now money is shifting out of those and into discretionary,” Marshall Front, chief investment officer at Front Barnett Associates LLC, said by phone from Chicago. “This is likely to get more juice as a result of low energy prices and people gravitating toward economically sensitive investments.”
Data last week showed U.S. gross domestic product grew at a 5 percent annual rate from July through September, the biggest advance since the third quarter of 2003. Consumer spending is poised to expand in 2015 as stronger employment and lower gasoline prices boost household buying power.
Retail sales picked up during the pivotal holiday shopping season as payroll gains and the lowest gasoline prices in five years put more cash in consumers’ pockets. Retail sales between Thanksgiving and Christmas rose 5.5 percent, according to MasterCard Advisors, as shoppers bought more jewelry and women’s clothing.

Oil Prices

While falling oil prices are fattening consumer’s wallets, the trend may slow in 2015, according to a report by John Canally, chief economic strategist at LPL Financial Corp.
“In the 12 months after oil fell at least 35 percent, oil prices have generally bounced higher, unless there was a recession,” Canally wrote in a Dec. 22 report to clients. “History shows that real discretionary spending almost always decelerates, but does continue to grow, in the 12 months after a big decline in oil prices.”
The National Retail Federation has predicted that sales in November and December gained 4.1 percent, the biggest increase since 2011. Last year, holiday sales climbed 3.1 percent after snow storms hampered shoppers late in the season.

Holiday Shopping

This year, the weather cooperated. Cold temperatures boosted sales of boots and jackets, while snow did not prevent shoppers from getting to stores, said Poonam Goyal, an analyst with Bloomberg Intelligence. “The perfect conditions for the holidays are a cold front, without precipitation,” she said in an interview before Christmas.
It was also a good holiday season for electronics retailers, who had their best season in years, according to Craig Johnson, president of research firm Customer Growth Partners. Apple Inc. (AAPL)’s iPhone 6, GoPro Inc.’s cameras and ultra-high definition televisions were hot items this year, giving a boost to Best Buy Co.
“People are asking themselves what effect there will be to the economy with lower energy prices,” Front said. “They see consumers spending more money, and investors are buying ETFs instead of trying to cherry-pick individual stocks in consumer discretionary. They just want to be on board to a greater degree.”