(Bloomberg) -- Stocks are near all-time highs. The year’s laggards are joining in on the rally. Even small caps are having a moment.
Yet behind the scenes, growing concern over how US consumers are holding up is standing in the way of a continued rise in Wall Street’s sales and profit estimates, a potentially ominous signal for bulls amid the euphoria.
A closely watched indicator for the S&P 500 known as estimate-revision momentum — a gauge of upward and downward changes to analysts’ 12-month projections — has recently stalled after being positive for both revenue and earnings per share for most of the year, Bloomberg Intelligence data show. Momentum was worst for the consumer discretionary sector in the second quarter, with negative revisions for sales and profit outpacing positive changes for nine straight weeks through July 5.
It’s a worrying trend for both consumer-linked stocks and the broader market as the second-quarter earnings season ramps up. Companies from Nike Inc. to Delta Air Lines Inc. and even snack and soft-drink giant PepsiCo Inc. have already warned of softer demand, and Wall Street will be on the lookout for any further evidence that consumers are curbing their purchases. After all, household spending powers about two-thirds of the US economy.
“Consumers are being mindful of where they’re going to spend,” said Eric Clark, a portfolio manager at Accuvest Global Advisors. “You really need to differentiate what you’re doing for a consumer to get their mind share and to get their wallet share. And we’re going to see that not only in the reports, but we’re going to see that in guidance.”
The S&P 500 Consumer Discretionary Index has trailed the broader market in 2024, and the gains it has posted have been fueled largely by Amazon.com Inc. Restaurant stocks have been a notable area of weakness for the sector in recent weeks, with Chipotle Mexican Grill Inc., Domino’s Pizza Inc. and Starbucks Corp. among the index’s worst performers this month.
Consumer services like restaurants is an area to watch in the coming weeks, according to BI analyst Wendy Soong, particularly after chains like Starbucks and Yum! Brands Inc. reported weaker-than-expected results last quarter. Consumers are spending more cautiously, and restaurant operators are being squeezed by higher labor costs as well, Soong said.
Evercore ISI analysts stepped away from their bullish ratings on Starbucks and Yum on Tuesday, citing softer sales outlooks for the back half of the year and concern around weakening consumer demand in China. Morgan Stanley has also predicted that restaurant operators will report more misses than beats this quarter, and that their commentary around recent trends will be “muted.”
Analysts project second-quarter results for S&P 500 consumer discretionary companies will show sales rising 4.1% from a year earlier, below the 4.7% increase expected for the overall index, BI data show.
To be sure, data released Tuesday showed that US retail sales, excluding the impact of a cyberattack on auto dealerships, rose in June by the most in three months. The report, coupled with a positive revision for May, suggests “the all-important US consumer, while increasingly discerning regarding purchases, continues to spend at a resilient pace,” according to Quincy Krosby, chief global strategist at LPL Financial.
Profit growth for the consumer discretionary sector is expected to top that of the S&P 500 for the three months ended June 30, BI data show.
Clark at Accuvest favors consumer companies with loyal shoppers and diners, and those that are gaining market share. Accuvest holds companies including Amazon, Costco Wholesale Corp. and Chipotle.
“The market is going to stay a little more lumpy from a returns perspective because some brands are just winning with consumers,” he said.
Sandy Villere, a portfolio manager at Villere & Co., is cautious on the outlook for low-income consumers, who are grappling with elevated rent costs, in addition to higher prices for other essentials like groceries. Meanwhile, more affluent consumers tend to be homeowners locked into low mortgage rates, and they’re benefiting from appreciation in the stock market. One of Villere’s current holdings is On Holding AG, which he likes partly because its sneakers appeal to a higher-end shopper.
Companies’ commentary on how consumers further up the income spectrum are faring will be key for investors, especially after European luxury companies including Burberry Group Plc, Swatch Group AG and Hugo Boss posted disappointing updates this week. Swatch blamed a slowdown in China, while Hugo Boss flagged weakness in China and the UK.
Domino’s will report second-quarter results on Thursday, with reports from Chipotle and McDonald’s Corp. expected to follow later this month. Earnings reports from consumer bellwethers Walmart Inc. and Target Corp. won’t come until August, when Wall Street will be eager to hear how the crucial back-to-school shopping season is trending.
“As the back-to-school season approaches, our view is that a ‘measured’ tone and approach will be apparent in commentary from management teams and spending patterns by consumers,” Telsey Advisory Group analysts led by Dana Telsey wrote in a note this week.
--With assistance from Janet Freund.
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