Complete Consumer Capitulation?

While everyone is quite aware of the intense underperformance in Financials this year, investors reviewing the quarter might be surprised to see that the torch of disfavor was handed to the Consumer Discretionary sector this quarter. Click to enlarge:

As one can see in the table above, the underperformance of the Consumer Discretionary sector this past month moved the sector to the 10th spot across all market capitalizations. While we are all familiar with the woes of the housing market, the extremely poor performance is distributed broadly through the sector and really stands out in the “specialty retailer” group.

While I view this is as a logical progression of the deteriorating economy and a direct consequence of the deflation of housing bubble that allowed consumers to spend beyond their means, it sure seems like investors may be overdoing it in the short-term. Using StockVal, I screened for all domestic Consumer Discretionary stocks with market caps in excess of $100mm that were “extremely oversold” (price momentum index below -2.0). Of the 584 names that met the initial criteria, 88 were more than 2 standard deviations from their price trend. As a group, they are down a stunning 34% this quarter and almost 40% year-to-date. Earnings estimates have plunged in many cases, but so have PE ratios. With quarter-end window-dressing and the tax-loss harvesting season upon us, clearly there are probably some cases of excess (for those inclined to bottom-fish). Many of these names are well-known – contact me if you would like the list.

I tend to see this as a precursor for other sectors of the market like Industrials or Technology. Technology, in particular, has become increasingly linked to the consumer. Semiconductor usage has proliferated in consumer applications. Retailers and manufacturers of consumer goods typically employ software in many aspects of their business. Obviously, many of the Industrials actually make the goods that the consumer buys. This started out as not a problem, then it was a confined problem (just sub-prime) and now we have the Fed reacting aggressively. In my opinion, the chain of events leading to a recession will continue to unfold.

In conclusion, I have selected a Technology stock that is highly leveraged to the consumer as well as a representative area of the 85 extremely oversold Consumer Discretionary names. As you can see, the action over the past quarter has been extreme. Will Apple (AAPL), or one of the many consumer-related Technology names, be the next domino to fall, or will investors find bargains in the Consumer Discretionary names like the Department Stores?

Disclosure: No position in any stock mentioned in this article

Comments

[Malkiel]

consumer discretionaries can be a tricky business to sort out--there's plenty of behavior out there like homeowners so maxed out on credit cards that they skimp on groceries, an item thought immune from downturn, while teenagers may still put all of their money into ipods even in a recession because there aren't that many other things of interest to them that their money will buy. And how many men facing a stretch of unemployment will take one of those last checks and buy an lcd tv so that they can have something to take their mind off their expected long down time?...

[Will Rahal]

I have posted charts indicating a change in Consumer behavior.
Durable Goods relative to PCE hit a new recession-level low.
Also ,in the last few years, Real Discretionary spending has not been able to climb above its 38-yr average. This has great implications for the economy.