The high unemployment and low consumer confidence in the U.S. may have prompted investors to steer clear of consumer-related bets. But one fund manager is taking the opposite view, believing the return of prosperity in America will bolster shares in consumer discretionary stocks.
Bill Smead, CEO of Smead Capital Management, says companies like Walgreen , Starbucks , Nordstrom and Disney , which have what he describes as "addicted consumer bases," managed to post strong earnings in the last three to four years despite the U.S. economy weathering its worst consumer recession in recent history. The Seattle-based fund manager attributes the performance to more discretionary spending power by the U.S. consumer, as Americans cut back on big-ticket purchases.
“People aren't buying houses, they aren't remodeling houses, they're not buying cars as often, and all those things keep monthly payments off your income statement,” Smead told CNBC on Wednesday. “And the new good behaviors that are coming from the austerity are causing those income statements to get replenished very quickly.”
This has resulted in the deleveraging of U.S. household debt, Smead said. The U.S household debt service ratio has fallen to 11 percent in 2011 from a peak of around 14 percent in 2007, according to data from the U.S. Federal Reserve.
"The United States consumer has done an amazing job... they've [brought] historically high debt-service ratios down to within a few quarters; we're going to have debt-service ratios in the United States comparable to 1982 and 1992 which were the beginning of five to seven year prosperity periods," Smead said.
Even as consumer confidence remains at recession-trough levels, Smead says the ability of the consumer to spend is ultimately more important.
"Think of it like this. Who is likely to spend money and do it more consistently, someone who's in very good shape on their income statement that lacks confidence or someone who is up to their eye-balls in payments but brims with confidence? The unconfident households with room in their income statement will ultimately be part of what we call "pent up demand" for goods and services. The car wears out or the fridge needs replacing or the kids are going to get too old to want to go to Disneyland, so you breakdown and do it. You don't have much confidence, but you can afford the expense," Smead said in a recent note.
And when unemployment rate begins to tick lower in the coming years, and confidence returns, Smead says consumer stocks will benefit even more.
“What would happen over say five to seven years when U.S. unemployment moves from nine to say, 6.8 percent five years from now? That's just more customers coming, more confidence,” said Smead.
"The U.S. companies that are in staple oriented businesses… theirs is a ten-to-twenty year story, not a three-to-four year story, but a good one," he added.