We’ve been pounding the table on AI stocks for a long time now, and we’re still pounding the table on them today. But they aren’t the only good stocks to buy in the market right now.
We’re also huge fans of consumer stocks at the current moment.
Today, Nordstrom (JWN), Abercrombie & Fitch (ANF), Foot Locker (FL), and Chewy (CHWY) all reported positive sales growth and positive comparable sales. Consumers are clearly still spending. As such, the bull thesis on consumer stocks is pretty straightforward.
But while the stock market has soared since late 2022 on AI euphoria, even the best consumer stocks have noticeably lagged.
The Global X Artificial Intelligence & Technology ETF (AIQ) has essentially doubled off its late 2022 lows and rallied to all-time highs. Meanwhile, the SPDR S&P Retail ETF (XRT) has rallied less than 40% off its late 2022 lows and remains 25% off its all-time highs.
Why? Interest rates.
Although stocks have risen since late 2022, interest rates have risen, too. This new bull market started in October 2022. At that time, the Fed Funds rate was 3%. Over the next nine months, the Fed hiked rates nine times to bring the Fed Funds rate to 5.25%.
This sharp rise in interest rates has crimped consumer stocks.
Auto financing rates have gone up…
Big-ticket financing rates have gone up…
Credit card interest costs have gone up…
Meanwhile, money has become more expensive and consumer spending has become more selective.
But that is all about to change.
Powell to the Rescue
Fed Board Chair Jerome Powell signaled last week that rate cuts – not rate hikes – are coming.
The market is expecting the Fed to cut interest rates in September for the first time in this cycle, and then to cut interest rates again in November… and again in December… and again in January, March, May, and June of next year.
All told, the market is expecting the Fed to cut rates eight times into the summer of next year.
That means lower mortgage rates…
Lower auto financing rates…
Lower debt financing rates…
Lower credit card rates…
And that, of course, means more consumer spending.
Most of those aforementioned retailers who reported positive earnings trends also mentioned that inflationary pressures continue to fall. This is consistent with weak price survey data we’ve observed over the past few weeks and falling oil prices.
So… we’re getting resilient economic activity… and falling inflation pressures… ahead of what will likely be multiple rate cuts in the last few months of 2024.
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That’s a recipe for a broad restrengthening of the economy.
The Final Word on Consumer Stocks
Consumer spending has slowed meaningfully over the past two years and especially here in 2024 as higher rates have started to bite consumers. Throughout 2022, retail sales growth ran north of 5%. In 2023, retail sales growth slowed to about 3.6%. In 2024, the average retail sales growth so far has been about 2.5%.
For two straight years, the consumer has slowed.
That will change over the next two years. Lower rates will help reawaken the consumer and unlock accelerated retail sales growth. We see retail sales rising by more than 3% next year and possibly more than 4% in the year after that.
As consumer spending reaccelerates in 2025/26, consumer stocks should benefit from strong earnings growth. Earnings per share across the S&P 500 Consumer Discretionary sector are expected to rise 12% in 2025 and 14% in 2024, for nearly 30% growth over the next two years.
At the same time, consumer stocks appear cheap right now. The average earnings multiple across the S&P 500 Consumer Discretionary sector is currently 26X, versus a five-year average earnings multiple of 33X. In a friendlier rate environment, we could see consumer stocks trade at their average 33X earnings multiple, implying potential for ~25% multiple expansion in the next two years.
Combining 30% profit growth and 25% multiple expansion, consumer stocks could realistically rally more than 50% over the next two years.
The best consumer stocks could rally more than that.
And that is why we are extremely bullish on consumer stocks right now.
— Luke Lango
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Source: Investor Place