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Schwab Sector Views

Schwab Sector Views: Retail Renaissance

Key Points
  • Retail shares have seen good performance of late, with some brick-and-mortar store operators bucking conventional wisdom.

  • Investing is a constant learning process, and recent retail action can remind us that following the crowd may not always be the best path.

  • The status of the American consumer looks good to us heading into the holiday shopping season.

Schwab Sector Views is our three- to six-month outlook for 11 stock sectors, which represent broad sectors of the economy. It is designed for investors looking for tactical ideas. We typically update our views every two weeks.

Rising from the ashes

Walking through a mall with my wife recently brought me into a department store that will go unnamed (Store #1 below). After following my wife around for a few minutes, I couldn’t help but express my frustration. Shelves were messy, help was nowhere to be found, the carpets had stains and the lighting made it look dingy and dark—yet just several days earlier, this company repeated its mantra that the “internet” was killing traditional retail. If that was true, why could I stroll to the other end of the mall, to another department store (Store #2 below), whose stock has soared recently, and which had neat displays, clean stores, pleasant lighting, and plenty of courteous help?

Unnamed Department Store #1

Unnamed Department Store #2

First, I’m sure you’re thinking that my wife is so lucky to be able to walk through the mall with a husband that scrutinizes the stores we go into. But more importantly, you hopefully are thinking that the “internet” may be the latest excuse for poorly run retailers. We used to joke that every time a clothing retailer struggled, they would blame the “weather.”  It was too hot, too cold, not hot enough at the right time, too pleasant, etc.—there was always a reason the weather wasn’t right. Now the favored excuse seems to have shifted to online competition.

There is no doubt that online shopping has changed the dynamics of the retail environment. We have argued that retail needed to be shaken up, so that some of the worst performers would be weeded out and brick-and-mortar stores would step up their game. And that’s what we’re seeing, which can make it fun and challenging for investors to sort out the winners and losers. There are many other factors that affect a stock’s performance than the cleanliness of a store—balance sheets, cost structures, management, balance sheet construction, etc.—but it is a place to start. For example, books are available easily online, and a major bookseller with brick-and-mortar locations is struggling—yet a local bookseller in my city is expanding and has consistent traffic, judging by my experiences. What’s the difference?  I can’t say for sure, but I know that the last couple of times I was in the former, I waited in line for over 10 minutes to check out while several employees just stood around. Meanwhile, in the latter, the staff was eager to aid my search and get me checked out quickly—and the internet had nothing to do with either experience.

As you can see, the retail industry has performed well of late, which we believe reflects the health of the American consumer and the evolution of the traditional retailing environment.

Retail has been performing well lately

Past performance is no guarantee of future results.

Adding to the belief that brick-and-mortar is not dead is the annual Consumer Insights survey by PricewaterhouseCoopers. The survey reported in 2014 that only 36% of respondents said they shopped at a brick-and-mortar store at least once a week. In 2015, that number bumped up to 40%, and this year’s survey showed the number rising to 44% (Wall Street Journal).

So brick-and-mortar’s death knell may not be sounding quite yet, but the status of the American consumer remains critical to both online and traditional retail spending. And it may be hard to believe, but in my wanderings around the mall, I couldn’t help but notice that holiday-related merchandise was starting to creep into the mix—and this upcoming time of the year is critical to retailers and their potential ability to achieve profitability. To our eye, entering this critical time of the year, the consumer looks quite solid. Unemployment is historically low, jobless claims indicate few layoffs and continued strength, consumer confidence is high, and wages are creeping higher.


Unemployment is low…

…and a forward-looking indicator looks good…

…helping elevate wages…

…and confidence.

 That certainly doesn’t mean there aren’t risks. First and foremost, the retailing environment in the U.S. remains extremely competitive and the online environment only increases that competition, limiting pricing power and profitability. Also, the Federal Reserve has continued to raise interest rates, which could make borrowing money more expensive and crimp consumers’ ability to spend. These risks, combined with concerns that a modest pullback could be in store following a good run, lead us to continue to hold our marketperform rating on the consumer discretionary sector, where the retail industry resides. But for those investors who like to invest in individual stocks, we suggest that ignoring the “traditional” retailers may not be the best way to approach the retail industry.

However, the biggest lesson may be that the crowd isn’t always right. Successful investors often buck the prevailing “wisdom” of the day. That can be a risky strategy at times. We’ve all heard the phrase “the market can remain irrational longer than you can remain solvent,” but some modest, well-informed and researched investments against the conventional wisdom may be a place for investors to look for potential opportunities.

But be careful: Sometimes spouses and friends may not appreciate the “research” being done on what is supposed to be a fun outing—take it from me, from experience!

Coming up: After the market close on September 30, the sector world is going to see the biggest shakeup since the establishment of the current GICS system. The telecommunications sector is being transformed into the communications sector, and its characteristics will completely change. Meanwhile, the information technology and consumer discretionary sectors are losing some major players, which could change our view on one or both of them. On September 27, we’ll publish our rating on the new communications sector and revised information technology and consumer discretionary sectors. Stay tuned.

Schwab Sector Views: Our current outlook

Sector

Schwab Sector View

Date of last change to Schwab Sector View

Share of the
S&P 500 Index

Year-to-date total return as of 09/11/18

Consumer discretionary

Marketperform

07/17/2014

13%

19.37%

Consumer staples

Marketperform

05/07/2015

7%

-3.32%

Energy

Marketperform

11/20/2014

5%

3.46%

Financials

Marketperform

08/16/2018

15%

2.33%

Health care

Outperform

01/26/2017

14%

12.62%

Industrials

Marketperform

01/29/2015

10%

3.75%

Information technology

Marketperform

08/16/2018

26%

18.87%

Materials

Marketperform

01/31/2013

2%

-0.88%

Real estate

Marketperform

08/16/2018

3%

3.68%

Telecom

Underperform

09/12/2013

2%

-1.77%

Utilities

Marketperform

08/16/2018

3%

4.77%

S&P 500®  Index (Large Cap)

 

 

 

9.48%

Source: Schwab Center for Financial Research and Standard and Poor’s as of 08/31/18.

Clients can use the Portfolio Checkup tool to help ascertain and manage sector allocations.

What is Schwab Sector Views?

Schwab Sector Views is our three- to six-month outlook for 11 stock market sectors, which are based on the 11 broad sectors of the economy.

The sectors we analyze are from the widely recognized Global Industry Classification Standard (GICS) groupings. After a review of risks and opportunities, we give each stock sector one of the following ratings:

  • Outperform: Likely to perform better than the rest of the market.
  • Underperform: Likely to perform worse than the rest of the market.
  • Marketperform: Likely to track the broad market.

How should I use Schwab Sector Views?

Investors should generally be well-diversified across all stock market sectors. You can use the Standard & Poor’s 500 allocations to each sector, listed in the chart above, as a guideline.

Investors who want to make tactical shifts in their portfolio can use Schwab Sector Views’ outperform, underperform and marketperform ratings as a resource. These ratings can be helpful in evaluating and monitoring the domestic equity portion of your portfolio.

Schwab Sector Views can also be useful in identifying stocks by sector for potential purchase or sale. When it’s time to make adjustments, Schwab clients can use the Stock Screener or Mutual Fund Screener to help identify buy or sell candidates in particular sectors. Schwab Equity Ratings also can provide an objective and powerful approach for helping you select and monitor stocks.

What You Can Do Next

To discuss how this article might affect your investment decisions:

Energy Sector
Energy Sector Rating: Marketperform
Consumer Discretionary Sector Rating: Marketperform

Important Disclosures

Schwab Sector Views do not represent a personalized recommendation of a particular investment strategy to you. You should not buy or sell an investment without first considering whether it is appropriate for you and your portfolio. Additionally, you should review and consider any recent market news.

All expressions of opinion are subject to change without notice in reaction to shifting market or other conditions. Data contained herein from third-party providers is obtained from what are considered reliable sources. However, its accuracy, completeness or reliability cannot be guaranteed. The above mentioned companies should not be construed as a recommendation or endorsement.

Diversification and rebalancing strategies do not ensure a profit and do not protect against losses in declining markets. Rebalancing may cause investors to incur transaction costs and, when rebalancing a non-retirement account, taxable events may be created that may affect your tax liability

Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly. Past performance is no guarantee of future results.

The S&P 500 Index is a market-capitalization-weighted index comprising 500 widely traded stocks chosen for market size, liquidity and industry group representation.

The S&P 500® Retailing Sub-Index is an industry in the Consumer Discretionary Index comprised of those companies included in the S&P 500 that are classified as members of the GICS® consumer discretionary sector and retail industry

The Consumer Confidence Index is a survey by the Conference Board that measures how optimistic or pessimistic consumers are with respect to the economy in the near future

The Global Industry Classification Standard (GICS) was developed by and is the exclusive property of Morgan Stanley Capital International Inc. (MSCI) and Standard & Poor's. GICS is a service mark of MSCI and S&P and has been licensed for use by Charles Schwab & Co., Inc.

The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc.

(0918-8HDJ)

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