Leading Brands Serving Vital Consumption Categories Offer Opportunity for Investors

On a very short-term basis, my panic metrics are as stretched as they ever get. At any given time, the market can rally like it has earlier this week (+8% for the S&P 500 as I type). The rubber band only stretches so far before it needs some relief. Tuesday’s market witnessed strong up volume and positive breadth at 10×1, up to down stocks. 10×1 days tend to mark short-term trend changes. My only issue is the market is up on hopes our politicians will do their jobs, that’s normally not a game of roulette I like to play. From a technical perspective, we can and should rally to the 265 level on the S&P 500, which is about 10% up from where we are currently. Whether we go there directly or pull-back first is anyone’s guess.

Markets:

In my view, the roller coaster bond, currency, interest rate, commodity, and stock markets continue to offer significant opportunity as well as volatility. There are so many variables to consider short-term that being out of stocks feels as risky as being in. The historic amount of monetary and fiscal stimulus will take time to be implemented but make no mistake, it will filter into the economy and into risk assets. All of us should expect the daily volatility to continue as headlines continue to drive sentiment. This is a time to be opportunistic, particularly with the leading brands serving vital consumption categories. The highest quality companies with the least leveraged balance sheets that have the most flexibility to manage through the hard-stops in business should come out the other end of this calamity with higher market share and more loyal customers. It’s in these kinds of environments that leaders cement their dominance and take market share. The strong get stronger, the marginal stay marginal, the weak businesses go away. This is simply corporate Darwinism. I know for our family, we are even more loyal to Amazon as they become our primary e-commerce partner. 

Are you going crazy being isolated?

Let’s face it, human beings are not wired for isolation. We are social creatures and we get bored easily. We are all doing our part with social isolation but make no mistake, with every day in isolation, a massive bottle of pent up energy for spending and being social is building up. When the cap is removed from the bottle, the wall of traffic, social activity, and consumer spending will be breathtaking. If our actions are tied to our spending and spending is tied to the revenues of companies and revenues are tied to stock price direction, there’s much better days ahead once we get through the worst part of this storm. We have to make sure everyone connects those important dots.

Yes, people’s behavior will change on the margin and I suspect we will all keep a comfortable social distance relative to how we used to socialize for a while but in the end, a return of the norm will prevail. For now, no one knows what the shape of the curve will look like as we get back to normal but given many important industries have seen an 80% to 90% drop in typical volumes already, we are not far away from a rate of change bottom. What does that mean? When the economic data and the fundamental data gets as bad as it will likely be, we are well on our way to the all-clear signal. The rate of change from the trough is all that matters. Most of the time, the best returns come from going from absolutely terrible to slightly less terrible. Let’s prepare for that eventuality over the next 30 to 60 days.

Earnings & guidance will be atrocious – Plan for it!

U.S. GDP & the economic data will be atrocious – Plan for it!

I’m absolutely shocked most companies and their Investor Relations teams have not been proactive and aggressive with regards to reducing and/or removing yearly guidance. The reality is, it’s impossible to predict what the next few quarters will look like for the majority of companies. Not lowering the bar is simply incompetent in my opinion. Earnings season will start in roughly two weeks so I suspect we will see plenty of earnings-related volatility and plenty of surprises in both directions. Just expect it and try to take advantage of it, that’s certainly my plan as a Portfolio Manager for a global consumer spending strategy.

The unemployment claims reports will offer very scary headlines. Small business confidence will plummet, just expect it and do not be shocked.  The industrial manufacturing data reported on the first of every month should also look dreadful. Expect it. We will eventually see a wicked spike in positive tests for Covid-19, do not be shocked, this is part of the peaking process. The consumer spending data like retail sales will look dreadful, this is all part of the bottoming process. If you’re like our family, you have spent more on the essentials and much less on the discretionary items. When normalcy returns, the discretionary spending will reverse aggressively. That’s the opportunity investors have in front of them. How do I know? History is on our side. The two charts below show the Consumer Discretionary sector via the XLY ETF (cap-weighted), the RCD ETF(equal-weighted to show broad participation) versus the S&P 500 ETF, SPY for the forward one year returns from the trough of the 2000-2003 recession and the 2008/2009 financial crisis. As consumer spending got back to normal, the consumer discretionary stocks outperformed. I suspect given the historic hard-stop in the consumer spending, the rally out of whatever lows we have will be something to watch.

Period:  April 2003 to April 2004 (source stockcharts.com)

Green = XLY
Red = RCD
Purple = SPY

Period:  March 2009 to March 2010 (source stockcharts.com)

Green = XLY
Red = RCD
Purple = SPY

Bottom Line:

Here are some bottom-line takeaway points to consider:

• Humans are not wired for isolation; we will return to normal sooner than later.
• As we self-isolate, the virus curve will flatten, and number of new positive cases will peak.
• The historic fiscal and monetary stimulus provided by the Federal Reserve and our politicians will act as a bridge to get most through this storm. We all need to help the people in need now more than ever.
• We should expect volatility across asset classes to continue for the foreseeable future.
• The pent-up demand for socializing and spending continues to build and when normalcy returns, the return to normal activity should offer a historic opportunity in stocks from wherever they bottom. Historic one-way directions are typically followed by historic movements in the opposite direction on our way to a better equilibrium.

Disclosure:
This information was produced by and the opinions expressed are those of the author as of the date of writing and are subject to change. Any research is based on the author’s proprietary research and analysis of global markets and investing. The information and/or analysis presented have been compiled or arrived at from sources believed to be reliable, however the author does not make any representation as their accuracy or completeness and does not accept liability for any loss arising from the use hereof. Some internally generated information may be considered theoretical in nature and is subject to inherent limitations associated therein. There are no material changes to the conditions, objectives or investment strategies of the model portfolios for the period portrayed. Any sectors or allocations referenced may or may not be represented in portfolios managed by the author, and do not represent all of the securities purchased, sold or recommended for client accounts.  The reader should not assume that any investments in sectors and markets identified or described were or will be profitable. Investing entails risks, including possible loss of principal. The use of tools cannot guarantee performance. The charts depicted within this presentation are for illustrative purposes only and are not indicative of future performance. Past performance is no guarantee of future results.