Consumer Sector Faces Pressure: Key Opportunities Amid the Sell-Off

A recent sell-off in prominent consumer stocks presents a strategic entry point for investors looking to acquire shares in companies resilient to household spending pressures, according to analysis from Wall Street professionals. Over the past three months, both the consumer staples and consumer discretionary sectors have lagged behind the broader market. The State Street Consumer Staples Select Sector SPDR ETF (XLP) has declined by 4% during this period, while the Consumer Discretionary ETF (XLY) fell by 5%. In contrast, the S&P 500 gained 4.3%. Amidst this downturn, several major consumer brands that have experienced significant declines emerge as compelling opportunities. Home Depot and McDonald’s have both dropped 18% over the last three months, and TJX Companies, the parent company of Marshalls and Homesense, is down 10%. Meanwhile, Costco has remained relatively stable, and Walmart has slipped by 3%.

Persistent high interest rates and elevated gas prices continue to exert downward pressure on the consumer sector, according to Paul Hickey, co-founder of Bespoke Investment Group. Increased borrowing costs and energy expenses directly dampen consumer spending, while rising Treasury yields offer investors a more attractive alternative to equities. “As long as we observe this upward trajectory in interest rates and oil prices, a sector-wide rally will remain elusive,” Hickey cautioned. Even established, blue-chip consumer brands are not “immune from the pressure.” During the third quarter, the 10-year Treasury yield—which serves as a benchmark for mortgage and auto loans—surged by 52 basis points to reach 5.29%. Concurrently, diesel prices have spiked 68% since the onset of the Iran conflict, as reported by AAA, driving up transportation and manufacturing costs and further fueling inflationary pressures. Wage growth has failed to keep pace, presenting a “major headwind for the sector,” Hickey added. In September, average hourly earnings rose by a mere 0.1%, according to the Bureau of Labor Statistics, resulting in a 12-month increase of 3%. With the latest available August consumer prices showing a 3.4% annual rise, workers’ overall compensation continues to lag behind inflation.

Rather than purchasing the sector as a whole, investors are increasingly focusing on individual stock selection, noted Joe Feldman, an analyst at Telsey Advisory Group. He suggests that when high-quality companies experience “a significant decline in share price, that’s often an opportune moment” to re-evaluate and consider entry.

Home Depot
The housing market faces significant headwinds as limited housing supply and high mortgage rates severely impact affordability. Despite this challenging environment, Home Depot has achieved seven consecutive quarters of comparable store sales growth, a trend expected to persist through the second half of the year, according to Feldman. HD 3M mountain HD’s 3-month performance. Home Depot continues to perform robustly and capture market share “despite its traditional macro backdrop being under significant pressure,” the analyst remarked.

McDonald’s
McDonald’s has focused its efforts this year on regaining lower-income consumers. Although management has faced a declining perception of value, Feldman noted that the burger chain continues to “put up pretty solid numbers” even as consumer spending softens. MCD 3M mountain MCD 3-month performance.

Costco
Costco is better positioned to withstand weaker consumer spending, as a significant portion of its membership base belongs to higher-income demographics. Feldman described Costco’s sales and earnings performance as “phenomenal,” highlighting that its “cash pile has been building.” The company could potentially issue a special dividend next year, having last distributed one in January 2024. COST 3M mountain COST 3-month performance. The membership-only warehouse club has also benefited from consumers seeking more affordable gasoline at Costco fuel stations. However, because the stock trades at a high multiple, Costco must meet elevated expectations to impress the market.

Walmart
“Walmart’s business is as strong as it has ever been,” despite the nation’s largest brick-and-mortar retailer reporting a same-store sales miss in its most recent quarter, according to Feldman. Walmart “keeps getting bigger,” serving as a prime example of a high-quality company with a strong balance sheet that manages its operations effectively regardless of the economic environment. WMT 3M mountain WMT’s 3-month performance. Over the long term, both Walmart and Costco have demonstrated their ability to withstand macroeconomic pressures across multiple business cycles, though the short term may present a “bumpier ride,” according to Bespoke’s Hickey.

TJX Companies
The off-price retailer encountered difficulties last quarter due to a self-inflicted merchandising issue, where an incorrect inventory mix negatively impacted parts of the business. However, management has indicated that trends have already begun to improve. TJX 3M mountain TJX 3-month performance. In contrast, Feldman noted that sales and earnings at off-price competitor Ross Stores have remained consistently strong, fostering a perception that Ross is gaining market share at TJX’s expense. Nevertheless, TJX historically tends to thrive during the holiday season as consumers search for well-priced treasures.

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