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Chase Bethel, equity consumer analyst at CIBC Asset Management.
Our outlook for the consumer sector has not substantially changed, in that we remain cautious on the consumer fragility, particularly amongst low-income consumers as the economy reopens. Rather than base our outlook on this transient phase of reopening, our outlook is primarily predicated on where we see the consumer in the period following the wind-down of government stimulus and the end of forbearance from banks, landlords and others.
As a general statement, while most middle- to high-income consumers have fared well through this pandemic, we expect stress on the finances of low-income consumers. We see the health of low-income consumers being particularly important, given that this group has a higher propensity to spend or consume relative to other consumer groups. Aside from this, fundamentally, the biggest positive surprise we’ve observed, both during the lockdown and in the reopening phase, has been in the leisure sector.
Based on our channel checks and also based on public company disclosure, it appears that consumers have substituted airline and cruise-based travel vacations for areas like power sports — think of ATVs, side-by-sides and personal watercraft — for boats, RVs and the like. Such strong demand was not anticipated so soon. However, the corollary here is that valuations for equities that we look at in the leisure space have had a strong run and valuations have made the risk-reward unattractive in our view.
When we think about when consumer sectors will rebound in the second half of the year, a lot hinges on how one defines a rebound. Currently, as at the end of June 2020 [and] relative to the very dismal retail spending that we saw in March and April across North America, when retail sales fell in excess of 20% at the trough, nearly all sectors are rebounding. But if the basis of comparison in the second half of the calendar year is relative to the comparable period last year, then in my opinion, it is difficult to see many consumer discretionary sectors showing growth.
Some of the signposts that will impact on the magnitude of the rebound in the second half include advancements in contact facing technologies, the availability of treatments or vaccines, government stimulus program extensions, and overall consumer confidence in conjunction with employment and asset values, like home prices. In this context, the discretionary sectors we are most constructive on are quick-service restaurants, automotive aftermarket retailers, dollar stores and other discounters, and home improvement retailers.
Automotive manufacturers and parts makers are also worth mentioning here, given that supply chain inventories are below average due to both Covid-19 and the GM workers strike last year, and there has been resilience in used vehicle pricing. So, it is conceivable that we could see growth in autos in the back half relative to a year ago, but it would be due to some of these technical issues impacting comparisons.
We’re so cautious on businesses and sectors that depend on large gatherings and/or air and cruise line travel. These include lodging companies, such as hotel chains, cruise operators, casinos, park operators, movie exhibitors, and products and services related to concerts and events. For example, in Canada, one of the leading manufacturers of T-shirts and apparel that is used in promotion of events like marathons and concerts is Gildan Activewear. And so this company’s products and services would not be as highly demanded in the period that we’re in, given that many sports events are not taking place, and also large concerts and gatherings have been delayed.
More generally, apparel is also a space where we feel is important to pick our spots. The trend towards casualization of apparel continues to play out with many still working from home. In addition, it is an area where replenishment of the wardrobe can be extended subject to consumer confidence or economic conditions.
I find it interesting, the level of concerns that investors have about the potential second wave, because I’m not even certain that in some parts of North America, the first wave has been definitively completed. Be that as it may, a few things are important to consider.
From the standpoint of the consumer sector and our views, we don’t equate a second wave with a second global lockdown. We are mostly watching for geographic hotspots where the virus spread may be reoccurring at a higher rate versus the rest of the country or population. A great example of this is seeing how different the Covid-19 experience was for British Columbia as compared with Ontario and Quebec. Moreover, we expect to see big differences between urban and suburban areas, contrasted with rural areas.
To hedge against potential second wave risks, our positioning today emphasizes strong balance sheets and liquidity. These attributes give companies time and optionality, which is crucial right now. Then, we think that it is important to remain invested in defensive consumer stocks like grocers and drug stores. Finally, our belief is that online acceleration will not be undone, regardless of outcome as far as the second wave is concerned. So we favour businesses that are positively aligned with this trend, or at least [those that are] relatively immune from disruption.