- Discretionary spending is rising around the world, including key regions like the US, European Union, the BRIC block, etc.
- Exchange-traded funds offer a straight and simple way to invest in industries or niches that interest you, particularly if you don’t have the time or expertise to hand-pick investments.
- PEJ, IPD and BJK form three solid ETF plays to make the most of increasing discretionary spending.
Thanks to considerable improvement in developed economies, fast-growing middle classes in emerging economies and rising disposable incomes, consumer spending on discretionary items - i.e. all except necessary items such as food, housing, etc. - has been rising around the world.
In the United States, consumer spending - along with other economic data - continued to recover in recent months from the slump caused by colder temperatures and snowstorms last winter. The increased spending was mainly attributed to a pickup in incomes that encouraged Americans to return to stores after a harsh winter.
Confidence in Europe has also seen improvement lately. In 2012, one of the biggest risks for the consumer discretionary industry was macroeconomic exposure to Europe, where several EU nations were tackling sovereign debt issues that needed to be addressed by extraordinary fiscal austerity measures. The general economic environment wasn't supportive of growth back then, but the outlook for the region is more favorable today. Last week, the Euro-area reported an unexpected rise in consumer confidence to the highest level in more than six years.
Furthermore, the growing middle class is leading the consumption drive in rapid-growth markets (RGMs), such as China, Brazil, India, etc. According to an EY report, middle class households across the RGMs will more than double to about 200 million by 2022, up from 94 million in 2012. As a result, these markets hold many winning cards, and not only for the long-term, but also the mid-term. As middle-class households increase, consumer spending on discretionary items is expected to grow at almost twice the pace of spending on food.
This overall uptrend in discretionary spending indicates many opportunities for consumer goods and services businesses worldwide. As a result, below are three industry-specific ETFs that are likely to benefit the most from the increase in discretionary spending and other related consumer trends.
PowerShares Dynamic Leisure & Entertainment ETF (NYSEARCA:PEJ): Eating out is probably the most common form of discretionary spending when people have some extra income. Although several restaurants have done exceedingly well in recent years, there is no restaurant-specific ETF available in the market yet. As a result, investors are forced to consider ETFs with some exposure to the industry, such as the Consumer Discretionary Select Sector ETF (NYSEARCA:XLY) or the PowerShares Dynamic Food & Beverage ETF (NYSEARCA:PBJ).
However, the PowerShares Dynamic Leisure and Entertainment ETF is a better restaurant bet. Besides 10 pure restaurant stocks, PEJ provides exposure to another 20 US companies in the Leisure and Entertainment sub-industries. The underlying index has approximately 30%, 21% and 18% exposure, respectively, to restaurants, movies and entertainment, and hotels, resorts and cruise line sub-industries. Its top five holdings are Marriott (NASDAQ:MAR), Walt Disney (NYSE:DIS), Hilton (NYSE:HLT), Las Vegas Sands (NYSE:LVS) and Chipotle (NYSE:CMG). Sonic (NASDAQ:SONC), Jack in the Box (NASDAQ:JACK), Buffalo Wild Wings (NASDAQ:BWLD), Domino's (NYSE:DPZ), Panera Bread (NASDAQ:PNRA), Dunkin' Brands (NASDAQ:DNKN), Papa John's (NASDAQ:PZZA), Wendy's (NASDAQ:WEN) and Fiesta (NASDAQ:FRGI) are the other 9 restaurant stocks in the index. Over the last five years, the fund has returned 211%, compared with 118.7% for the S&P 500 (^SPX) index. It charges fees of 63 basis points per year.
SPDR S&P International Consumer Discretionary Sector ETF (NYSEARCA:IPD): With rising discretionary spending, it would be beneficial to have a decent exposure to the luxury goods and services industry. After the Claymore/Robb Report Global Luxury Index ETF shuttered in September 2010, there has been no luxury-specific ETF available in the market as well.
However, taking a closer look at the discretionary sector ETFs, you will find most of the top holdings of the original Claymore fund present in IPD. As a matter of fact, four of the top 10 holdings of the defunct fund, viz. Daimler (OTCPK:DDAIF), Richemont (NYSE:CFR), LVMH-Moet Hennessy (OTCPK:LVMHF) and BMW (OTCPK:BAMXF) are in IPD's top 10. Toyota (NYSE:TM), Honda (NYSE:HMC), Hyundai (OTC:HYMLF), Hennes & Mauritz (OTCPK:HMRZF) and Volkswagen (VLKAY) make up some of the other top holdings. Essentially, the fund provides exposure to the consumer discretionary sector of developed global markets outside the United States. IPD has outperformed the S&P 500 index since its debut in 2005. It charges fees of 50 basis points per year.
Market Vectors Gaming ETF (NYSEARCA:BJK): Another sector that is likely to benefit from increasing discretionary spending is the gaming sector, and there is no convenient way to invest in gambling stocks than the Market Vectors Gaming ETF.
The Asian gaming mecca of Macau is already generating about six to seven times the revenue of Las Vegas, and a key growth driver of casino business in the region has been ever-growing tourism, especially from Mainland China. With China's upper middle class forecasted to triple in the next ten years, the Macau casinos are well-positioned to benefit from the rising discretionary spending of the Chinese. Apart from rising global incomes, Las Vegas is also expected to report better numbers in upcoming quarters, while a few countries are in the process of enacting legislations to legalize casinos. All these factors will have a positive impact on gaming industry stocks.
Las Vegas Sands, Melco Crown (NASDAQ:MPEL), Galaxy Entertainment (OTCPK:GXYEF), Wynn Resorts (NASDAQ:WYNN) and MGM Resorts (NYSE:MGM) are among the top ten holdings in the underlying index. The fund has marginally outperformed the broader market over the last five years, and charges fees of 65 basis points per year. Being a fairly small fund, beware of possibly large spreads between bid and ask prices. You might want to consider using a limit order for this particular purchase.
It is evident that global household incomes are on the rise, and the trend doesn't seem to be stalling anytime soon. Therefore, it would be rewarding to have some investments in the consumer discretionary industry, especially restaurants, luxury goods and services and casinos. Given that exchange-traded funds offer convenient ways to invest in these sectors, PEJ, IPD and BJK form solid candidates to make most of the rising discretionary spending.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.