Investment Focus: What are consumer stocks and why should you care?

Consumer stocks split into three types - staples, discretionary and luxury - each behaving differently in tough economic conditions. After years of underperformance from inflation and high rates, we explain what sets them apart and why some fund managers now see value in the sector.

Why is consumer spending the real engine of economic growth?

While AI or defence spending may grab the headlines, for the majority of developed economies, the main engine of growth is consumption. It accounts for two-thirds of GDP in the UK [1] and even more in the US [2]. It is also a fast-growing segment in many emerging economies. Companies that are exposed to consumer spending may not be the most exciting, but they have historically been some of the most reliable.

Consumer companies are an important part of the major indices. They currently form around 15% of the MSCI World Index

[3] and a similar percentage of the MSCI Europe ex UK [4]. They are a smaller part of the FTSE 100, but around 20% of the FTSE 250. Consumer companies tend to have large addressable markets, strong brands, good pricing power and pay healthy dividends.

However, the industry is mature. Unlike, say, technology, there are few revolutions in the consumer sector. While there is incremental change – consumer preferences move from one brand to another, tastes shift – the chances of finding a vast new market in the same way that, say, a technology company might, are relatively small. Consumer companies have historically been used as the backbone of a portfolio – reliable, consistent, but unexciting.

The one area where there is higher potential growth is in emerging markets. Rising wealth levels are creating a growing middle class, keen to lift their living standards. Oxford Economics says that the middle-class population in emerging markets is set to double over the next decade, expanding from 354 million households in 2024 to over 670 million households by 2035 [5]. In many cases, this is leading to the emergence of domestic champions. That might be companies such as MercardoLibre, South America’s answer to Amazon.

What are the different types of consumer stocks?

What are consumer staples stocks?

Consumer staples businesses make those products that people tend to keep buying whatever the economic weather, including food, drink, or basic cleaning and hygiene products. They are often large, well-known companies with a portfolio of brands, such as Nestle, Diageo, Coca-Cola or Unilever.

These tend to be steady, if unexciting businesses. They are competitive industries with lower margins and tend to rely on volume sales. They have a variety of ways to increase their profitability

– through raising prices, selling more units or creating greater efficiency in their supply chains. History suggests most have been able to raise their prices in line with inflation, or even ahead of it. Lifting the number of products sold is more complex and may depend on less tangible factors such as brand.

These businesses tend to be bought for their stability. They will often pay regular dividends

, compound their earnings year after year and deliver few unwelcome surprises for shareholders. At times of economic uncertainty, they can be a useful ballast in a portfolio.

How do consumer discretionary stocks work?

Consumer discretionary companies are focused on wants rather than needs – holidays, leisure activities, cars, or media and entertainment. Demand for these areas relies on people having plenty of disposable income. As a result, these businesses tend to do well when economic growth is high and people are confident enough to spend.

That said, consumption patterns will change. Post-Covid, people increasingly chose to spend money on ‘experiences’ rather than things. That might be luxury travel and hospitality over clothing or homeware, for example. Within the consumer discretionary sector will be companies such as Amazon and Tesla, but also Booking.com and McDonald’s.

Why do luxury stocks behave differently?

Luxury stocks should be a discretionary purchase, but for the world’s super-rich, they often aren’t. While there is an aspirational element to luxury spending, there is a top tier of ‘ultra-luxury’ buyers that are not particularly sensitive to economic conditions. These companies often rely on factors such as brand strength and scarcity.

The luxury sector incorporates European giants such as LVMH, Hermes, Richemont or EssilorLuxottica, alongside emerging Asian brands such as Chow Tai Fook, or Kalyan Jewellers India. It may also include companies such as Ferrari. The sector has been relatively reliant on Asian consumers in recent years. This has been a source of weakness as the Chinese consumer in particular has struggled.

How has the consumer sector performed recently?

It has been a difficult period for the consumer sector. The MSCI World Consumer Staples sector has significantly trailed broader equity market over the past five years. The MSCI World has delivered 11.5% per year, while the MSCI World Consumer Staples sector has delivered just 4.7%. Over the past year, the MSCI World is up 21.3%, while the Consumer Staples index is up just 5.2%. The Consumer Discretionary sector has been even weaker.

The problem for both areas has been concerns over rising interest rates and inflation. This has been a persistent problem since 2022 when interest rates

rose abruptly. Consumer companies are vulnerable to any constraints in household budgets. Higher borrowing costs and – more recently - higher energy prices leave less disposable income for other areas.

The sector has also been suffering from ‘long Covid’. It saw a significant bounce during the Covid years as investors gravitated to sectors where demand wasn’t impacted by lockdowns.

Valuations moved to new highs, and it has taken some time for normality to be restored. 

Nevertheless, there have been regional differences. In the US, consumer confidence has been less impacted by inflationary worries. The US consumer continues to spend on credit, with $1.25 trillion in outstanding credit card balances in the first quarter of 20266. The UK consumer, by contrast, has greater firepower than its US equivalent, with higher savings rate and lower debt balances, yet remains less confident about spending. The Chinese consumer has been a significant source of regional growth, but has seen confidence hit by the weakness in the property sector.

How can I invest in consumer stocks?

There are a range of passive options to access different types of consumer companies. There is the iShares Global Consumer Staples ETF, for example, which is based on the S&P Global 1200 Consumer Staples Sector Capped Index. Its largest holdings include Walmart and Costco. The SPDR MSCI World Consumer Staples UCITS ETF is another option.

There are also ETFs

focused on consumer discretionary companies. These include the  Xtrackers MSCI World Consumer Discretionary UCITS ETF and iShares S&P 500 Consumer Discretionary Sector UCITS ETF. Their largest holdings include Amazon, Tesla, and LVMH. Luxury ETF options include the Amundi Global Luxury UCITS ETF.

For active

managers, funds that prioritise ‘quality’ companies often have higher weightings in consumer names. That might include the Troy Global Income fund, which has around 30% in consumer staples companies and another 9% in consumer discretionary companies [7]. Evenlode Global Income fund also holds around a quarter in consumer companies [8].

For investors that prefer more specific exposure, there are options such as the Fidelity Global Consumer Brands fund, which holds Amazon, Netflix and L’Oreal, or the Morgan Stanley Global Brands fund. That includes holdings such as Coca-Cola, Visa and Microsoft.

What will drive consumer spending going forward?

Consumption is shaped by household spending power and inflation first and foremost. Concerns over inflation, particularly around energy costs, have held back consumer spending more recently. Real wages are also important. Consumers need confidence that they will have a job at the end of the month and have more in their pockets after paying their bills.

Until the war in Iran, inflationary pressures had started to improve. Some of the supply chain problems that consumer companies experienced after Covid had resolved, and there was finally clarity on the tariff

situation. Many consumer companies had been in the firing line on tariffs because they are large international businesses and rely on selling to the powerful US consumer.

However, the war has disrupted the outlook for consumer companies once again. It has disrupted the raw materials markets on which many consumer groups rely, disrupted supply chains and dented confident. Most importantly, it has reignited inflationary concerns.

Nevertheless, after a long period of weakness, the sector looks cheaper than it has for some time. Christopher Rossbach, manager of the J Stern World Stars Global Equity fund says some of the great consumer companies, from Nestlé to Nike, are transforming their businesses through innovation and cost-cutting, and yet – after a difficult period – remain “among the cheapest companies in the market”. He is taking selective exposure in his fund.

James Thomson, fund manager on the Rathbone Global Opportunities Fund has also been adding some consumer names to the “defensive sleeve” in the portfolio, with the aim of providing a counterpoint to the technology holdings in the fund.

The consumer sector has some fragility in the current environment. It is exposed to inflation, which remains a risk while the conflict in Iran continues. 
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[1] Office for Budget Responsibility

[2] CEIC

[3] MSCI World Index (USD)

[4] MSCI World Index ex UK (EUR)

[5] Oxford Economics

[6] Trading Economics

[7] Troy Asset Management

[8] Evenlode Global Income Fund