From Hatchimals to Handbags: How Investors Can Profit From Holiday Spending

December 21, 2016 Craig Maddock

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As I raced around the mall looking for a Hatchimal—this year’s must-have toy for my 8-year-old daughter and millions of other girls—the investment manager in me couldn’t help thinking about holiday spending and how investors can profit from it.

Turns out MD investors are benefitting from the Hatchimal craze through MD American Growth Fund, MD American Value Fund, MD Balanced Fund, MD Dividend Income Fund, MD Equity Fund, and MDPIM US Equity Pool because these funds all own shares in Walmart or Amazon. They are selling these interactive eggs that require nurturing and patience before they hatch into a magical surprise creature that looks like a tie-dyed penguin.

Hatchimals are just one small, but cute, example of a product that helps drive profits in the consumer discretionary sector. They also neatly define what the consumer discretionary sector is all about—it’s made up of companies that make things we want but don’t actually need.

Automobiles, for example, are part of the consumer discretionary sector. While giving up your car may complicate your life, you could live without it, unlike food, which is part of the consumer staples sector. 

Sector-Weights-E
The consumer discretionary sector is one of the largest subsectors of the MSCI World Index.

The consumer discretionary sector has delivered attractive performance in recent years despite sluggish global economic growth. The MSCI World Consumer Discretionary Index (USD) has outperformed the MSCI World Index (USD) over the three, five and 10 years ending November 30, 2016. Consumer discretionary stocks have delivered this performance while offering decent valuations. The sector’s price-to-earnings ratio is about 18 times earnings, versus the broader market at about 22. This means consumer discretionary stocks offer the potential for great performance at a cheaper price than the broader market.  

Annualized-Returns-E

The consumer discretionary sector has consistently outperformed the broader market as represented by the MSCI World Index.

The consumer discretionary sector is also an important leading economic indicator. Because consumer discretionary stocks are tied to disposable income and consumer spending patterns, they can be used as an indicator of how the overall economy may start to perform as consumers pick up their spending.

Take my holiday shopping as an example. I’m committed to finding a Hatchimal for my daughter and also need something for my wife. I know she would be thrilled if I bought her a Louis Vuitton purse, a luxury item that, unfortunately for her, falls into the consumer discretionary—or nice-to-have—category.  

But for a moment, imagine I’m a wealthy entrepreneur in a rapidly growing economy like China who is buying his wife a Louis Vuitton purse. The number of these purses sold tells us about how wealthy consumers are doing and what their spending plans could mean for global economic growth. 

The good news for MD investors is you can profit from the world’s leading luxury goods maker by investing in MD Balanced Fund, MD Growth Fund, MD International Growth Fund, or MDPIM International Equity Pool, which all have shares in Louis Vuitton. 

While Louis Vuitton is headquartered in France, a large part of its growth strategy is focused on rising wealth in many emerging markets. Dom Pérignon, Tag Heuer and DeBeers are just some of the iconic global brands in the Louis Vuitton family that are sought after by wealthy emerging-market consumers.

With gross margins of around 65%, Louis Vuitton is very profitable, and has a brand strategy designed to keep it that way. Just as a CMA membership (and the eligibility to be an MD client) is exclusive to physicians, Louis Vuitton is fiercely protective of the exclusivity of its brand. The company will even go as far as destroying inventory to avoid discounting it and devaluing the brand, and you will not see their goods for sale at outlet malls. This commitment to maintaining an exclusive brand bodes well for Louis Vuitton remaining a favoured choice of the world’s elite consumers.

 

Five-Year Returns
(Annualized, ending 30/11/16)

MSCI World Index (USD)
10.51%
Louis Vuitton (EUR)
12.90%

Source: Bloomberg

Consumer Discretionary Top 10 Holdings

 

Another great consumer discretionary investment is Amazon. As I rushed around the mall, I thought of how busy people are at this time of year, and with my MD hat on, I reflected: “If a physician is not too busy to shop in person, who is?” 

 

Dominating the online shopping space isn’t enough for Amazon. It is the biggest company in the MSCI Consumer Discretionary Index, has great cash flow and is aggressively expanding into other businesses like cloud computing and logistics. It’s one of the FANG stocks (Facebook, Amazon, Netflix and Google) that have been delivering outsized returns. Unlike Louis Vuitton, Amazon’s performance is driven by high turnover and large sales volumes. Amazon is also a nice global play.

 

Five-Year Returns
(Annualized, ending 30/11/16)

MSCI World Index (USD)
10.51%
Amazon (USD)
33.23%

Source: Bloomberg

Other consumer discretionary stocks, such as Dollar General, also offer excellent entrees into higher-turnover, lower-margin businesses. This discount retailer has more than 12,500 stores in 43 U.S. states. It generated more than US$20 billion in revenue by competing for business from price-conscious Americans. It’s also held by MD through MD Equity Fund, MD American Value Fund and MD PIM US Equity Pool.

Ultimately, as part of our MD PrecisionTM approach to building portfolios, these companies are prime examples of the strong fundamentals that we and our strategic partners look for.

 

Five-Year Returns
(Annualized, ending 30/11/16)

MSCI World Index (USD)
10.51%
Dollar General (USD)
14.52%

Source: Bloomberg

My Christmas shopping eventually did get done. Unfortunately, the Hatchimal lived up to its reputation as this year’s “must have toy,” and I was unable to find one. Maybe I’ll have to pin that one on Santa.

As for forgoing the Louis Vuitton purse, I’ll have to come up with a better excuse.

 

About the Author

Craig Maddock

CRAIG MADDOCK, CFP, CFA, CIM, MBA, is Vice President with the Investment Management team at MD Financial Management. He leads the team of portfolio managers and investment analysts responsible for managing the firm’s mutual funds and investment pools.

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