Consumer Discretionary

Media stocks are undergoing a de-rating, led by the heavyweight S&P movies & entertainment index. Sales prospects have been undercut by shifting viewing habits, which is creating uncertainty surrounding the value of network assets. The ISM services index warns that recreation spending will continue to retreat, which also has implications for ad revenue. Our Advertising Indicator is already deep in negative territory, consistent with the overall profit contraction and our expectation that the corporate sector will retrench. Meanwhile, programming costs remain high, adding to profit margin stress emanating from weakening top-line performance. This toxic mix should ensure that all of the shareholder friendly activities that have supported valuation expansion since 2009 will dissipate, to the detriment of premium multiples. We have a high-conviction underweight on the overall media sector, including the S&P movie & entertainment index. The ticker symbols for the stocks in this index are: DIS, CMCSA, TWX, TWC, FOXA, CBS, OMC, VIAB, IPG, NWSA, DISCK, TGNA, CVC, SNI, DISCA, FOX, NWS. bca.uses_in_2016_02_12_002_c1 bca.uses_in_2016_02_12_002_c1

Homebuilders have been caught up in broad consumer discretionary sector weakness, but we expect differentiation to soon materialize. Housing starts are picking up steam (bottom panel) and are still trailing household formation, underscoring that structural demand for housing will remain solid. The NAHB's survey is well above the 50 boom/bust line (middle panel). Resilient housing activity is a testament to robust housing affordability. The 30-year fixed mortgage rate is near generational-low levels, and is being suppressed by the global government bond bull market and the proliferation of negative interest rate policy (NIRP) around the world. This underscores that house prices have not overshot. Importantly, the latest JOLTS survey of job openings points to a firming construction labor market. The top panel of the chart shows that job openings in the construction industry are an excellent leading indicator of homebuilding relative performance, and the current message is positive. Bottom Line: Stay overweight. The ticker symbols for the stocks in this index are: DHI, LEN, PHM. Homebuilders Are Still A Buy Homebuilders Are Still A Buy

The latest National Association of Restaurant survey showed a sharp slowdown in activity, with same store sales contracting for the first time in years. This is not an aberration. Despite rising real disposable incomes, consumers are pulling in their horns, as evidenced by the rising personal savings rate (shown inverted). The implication is slowing revenue growth for the restaurant industry at a time when wage growth is running hot. This was the motivating factor behind our downgrade to underweight late last year. The silver lining in this dark cloud is that consumers are likely to allocate dollars not spent dining out to the retail food store industry. That is supportive of grocery store pricing power. The chart shows that retail food stocks generally trend inversely with restaurant stocks. We are overweight the former and underweight the latter. The ticker symbols for the stocks in the S&P retail food stores and S&P restaurants are: KR, WFM, and MCD, SBUX, YUM, CMG, DRI, respectively. bca.uses_in_2016_02_10_002_c1 bca.uses_in_2016_02_10_002_c1

Stronger-than-expected profit results have propelled the S&P leisure products group higher in recent trading sessions. Despite the sharp gains that have already accrued, we continue to see meaningful upside potential. Positioning had become exceedingly bearish on this group, as measured by the surge in the short interest ratio. The latter showed it would take roughly ten days to cover these bearish bets. Meanwhile, analyst profit estimates were challenging multi decade lows, in relative terms. However, the plunge in oil prices and rising income are growth pushing up spending on leisure products, and retail sales and toy and hobby stores are booming. Consequently, the stage is set for a major re-rating in earnings expectations (second panel), which should force ongoing short covering. We reiterate our high-conviction overweight. The ticker symbols for the stocks in this index are: MAT, HAS. bca.uses_in_2016_02_05_002_c1 bca.uses_in_2016_02_05_002_c1

Deflationary pressures in the media space as a result of cord cutting and changing consumer consumption habits are undermining profit prospects. To make matters worse, the service sector is closing the gap with the weakening manufacturing sector: the latest ISM non-manufacturing survey showed a large drop, particularly in its employment component. Worrisomely, industry productivity (sales/employment) has ground to a halt, warning that relative profits will likely disappoint in the coming quarters, the opposite of what sell-side analysts are currently anticipating for the next 12-months (bottom panel). With media credit spreads steadily widening following the debt binge to retire equity, the risk premium in this sector is set to steadily widen. We reiterate our high-conviction underweight stance. The ticker symbols for the stocks in this index are: DIS, CMCSA, TWX, TWC, FOXA, CBS, OMC, VIAB, IPG, NWSA, DISCK, TGNA, CVC, SNI, DISCA, CMCSK, FOX, NWS. bca.uses_in_2016_02_05_001_c1 bca.uses_in_2016_02_05_001_c1

The S&P hotels index is breaking down. The era of cheap financing costs spurred a multiyear lodging industry construction binge, creating a backlog of new capacity likely to hit markets for some time to come. In the interim, there is evidence that slowing economic growth is starting to undermine revenue. Global revenue per room is contracting, even prior to much of a slowdown in traffic. The implication is that pricing power is being sacrificed to fill rooms. Looking ahead, leading indicators of consumer spending on lodging are pointing to a marked slowdown, consistent with our expectation that corporate sector travel budgets will also be pruned as profit margins get squeezed. We downgraded this overvalued group at the end of last year, and reiterate our underweight stance. The ticker symbols for the stocks in this index are: CCL, MAR, RCL, HOT, WYN. bca.uses_in_2016_02_04_002_c1 bca.uses_in_2016_02_04_002_c1

Yesterday's Weekly Report showed a table of sector operating margins relative to their long-term average, as well as price/sales ratios. Expensive sectors with above average margins appear particularly vulnerable in an environment where overall margins are being squeezed and economic risks are mounting. The consumer discretionary sector stands out as having significant profit margin and valuation downside. The policy backdrop is also turning more hostile. History shows that this sector outperforms when interest rates are falling and/or low, and underperforms when they climb and credit becomes more restrictive. This correlation is evident in the correlation between relative performance and money supply. When the cost of credit is low and liquidity is plentiful, investors discount increased discretionary consumer spending, particularly on durables, and bid stocks up accordingly. The opposite is also true. Currently, money growth is plunging, although remains in positive territory for the time being, suggesting that credit creation is slowing. Importantly, the longer that financial markets stay turbulent, the greater the upward pressure on the personal savings rate and likelihood that discretionary spending is reined in. Even then, a consumption contraction is not a prerequisite for consumer discretionary underperformance. With the Fed determined to keep pushing up interest rates, the macro backdrop is bearish for discretionary stocks. Consumer Discretionary: Fraught With Risk Consumer Discretionary: Fraught With Risk

An oversold bounce may be getting underway, but without a policy assist, it would be a rally to sell. Go to neutral in the growth vs. value trade and beware sub-surface weakness in the consumer discretionary sector.