The consumer is strong, right? December data showed this on the retail sales and personal spending front. How can you argue with the data? Easy – with other data.
Consider that for all the narratives surrounding the strength of the economy, seemingly every economic data point gets revised down months later. And when we look at consumer discretionary stocks, it’s clear that investors aren’t betting on a so-called “resilient” economy.
Discretionary stocks are often the first to suffer when consumers tighten their belts. The lackluster performance of these stocks suggests that investors are skeptical about the long-term viability of the current spending patterns. Consider that consumer discretionary stocks are still nowhere near their 2021 peak. Nor are retailers overall.
Much of the current spending is not being fueled by disposable cash but by consumer debt. Credit cards, loans, and various other forms of borrowed money are all subject to the fluctuations of interest rates. When these rates rise, the expense of managing and sustaining debt similarly escalates, leading to a heightened financial burden on household budgets. This direct relationship underscores how increases in interest rates can intensify the cost of borrowing, making it more challenging for individuals to keep up with their debt obligations.
Is this why those stocks most sensitive to the consumer just can’t get some real traction?
Debt can be a useful tool for consumers to manage cash flow and make necessary purchases.
However, over-reliance on debt can lead to financial instability. As debt levels rise, the risk of default or reduced spending in other areas also increases, which can have a ripple effect across the economy. The key issue is not whether consumers are spending, but how they are financing that spending. If debt is the primary driver, this raises concerns about the sustainability of current spending levels.
Investors are evidently cautious, reflected in the underperformance of discretionary stocks. This caution likely stems from the acknowledgment that current spending levels may not be sustainable in the long run.
The Bottom Line
If consumer spending slows down due to the increasing debt burden and higher interest rates, consumer discretionary stocks could see a further decline, and serve as a warning for the overall health of the bull market.
The bottom line here is simple. The juxtaposition of positive spending data against the underperformance of consumer discretionary stocks provides a nuanced view of the current economic landscape.
While consumers are indeed spending, the reliance on debt to finance these expenditures, compounded by rising interest rates, casts a shadow over the sustainability of this trend. Investor sentiment appears to be in alignment with a more cautious outlook, anticipating that the current spending patterns may not be tenable in the long term.
On the date of publication, Michael Gayed did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
