Consumer Staples Stock Outlook - June 2016

Can Consumer Staples Stocks Fight Global Worries in 2016?

The traditionally defensive consumer staples sector had a strong start to 2016 and was one of the best performing sectors in the S&P 500 in the first quarter amid a moderate economic recovery and improving job market, rising wages, cheaper fuel, improved business and renewed optimism as a result of the housing recovery. If we analyze the trend on a year-to-date basis, consumer staples stocks have outperformed the S&P 500 as a whole.

An interesting fact in the first-quarter earnings season was that despite global worries, a bigger proportion of companies came out with positive surprises, for both earnings and revenues. The likely explanation for this development is that either investors were prepared for even weaker results or the guidance for most companies was already lowered to easy-to-beat levels.

A number of industry players including The Coca-Cola Companies, Inc. (KO), McCormick & Company (NYSE:MKC), Inc. (MKC), PepsiCo (NYSE:PEP) Inc. (PEP), Tyson Foods (NYSE:TSN), Inc. (TSN), Sysco Corp (NYSE:SYY). (SYY), Altria Group (NYSE:MO), Inc. (MO) and TreeHouse Foods, Inc. (THS) posted positive earnings surprises in the March quarter, while a few others like Philip Morris International (NYSE:PM), Inc. (PM) and Boston Beer, Inc. (SAM) missed on earnings.

We also note that consumer confidence - a key determinant of the economy's health – has slightly declined in April from a modest gain in March. According to the recent Conference Board data, the Consumer Confidence Index was down to 94.2 in April from the March reading of 96.1. However, the Employment Trend Index increased in April, after decreasing in March. It now stands at 128.28, up from 126.42 in March.

We should keep in mind that the consumer staples sector continues to face headwinds from uncertainty related to the Fed, global market turmoil and continued volatility in the equity market. Partly offsetting these headwinds is the recent weakening of the U.S. dollar, which should help the group’s margins in the quarters ahead. Also benefiting the sector is the continued lower commodity and energy costs, which should help boost their profit margins.

Zacks Industry Rank – Positive

Consumer Staples is one the 16 broad Zacks sectors within the Zacks Industry classification. We rank all the 260 plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry. To learn more visit: About Zacks Industry Rank.

As a guideline, the outlook for industries in the top 1/3rd of all Industry Ranks or a Zacks Industry Rank of #88 and lower is 'Positive,' the middle 1/3rd or industries with Zacks Industry Rank between #89 and #176 is 'Neutral' and the bottom 1/3rd or Zacks Industry Rank of #177 and higher is 'Negative.'

The consumer staples sector is further sub-divided into the following industries at the expanded level (260 industry groups): Agricultural Operations, Beverages – Alcohol, Beverages – Soft, Consumer Products – Miscellaneous Staples, Cosmetics & Toiletries, Food – Miscellaneous/Diversified, Publishing – Newspapers, Soaps & Cleaning Preparations, Textile – Apparel and Tobacco.

Quite a few industries are placed in the top 1/3^rd of the 260+ industry groups. While Consumer Products – Miscellaneous Staples holds a Zacks Industry Rank #12, Agricultural Operations carries a Zacks Industry Rank #33 and Soaps & Cleaning Preparations holds a Zacks Industry Rank #37. Food – Miscellaneous/Diversified and Tobacco also falls in this category with Zacks Industry Rank of #51 and #75, respectively.

A number of them fall in the middle portion of the pack, with Beverages – Alcohol and Beverages – Soft holding the same Zacks Industry Rank #90. It is followed by Cosmetics & Toiletries and Textile – Apparel, holding ranks of #114 and #165, respectively.

Only one industry i.e. Publishing – Newspapers, with a Zacks Industry Rank #189, comes in the bottom one-third.

Looking at the exact position of these industries, one could say that the general outlook for the consumer staples space is positive. This is because results of most companies were better-than-expected in the first quarter of 2016, owing to a gradual recovery in the economic environment and cheaper gasoline prices, despite continued concerns over macro-economic issues.

Earnings Trends

With the Q1 earnings season now effectively behind us, total earnings for the sector in the S&P 500 were up +2.6% on -4.1% lower revenues, with 83.3% beating EPS estimates and 63.3% coming ahead of top-line estimates. This compares to earnings declines of -6.3% on -7.9% lower revenues in the preceding quarter.

For the second quarter, earnings are expected to decline 4%, while revenues are expected to decline 0.9%.

The sector is expected to contribute 6.8% of the total S&P 500 income for 2016 and it holds 8.5% market cap weight in the index at present.

For more details about earnings for this sector and others, please read our ‘Earnings Trends’ report.

Bottom Line

Given the performance of the consumer staples sector in the first quarter, things are looking up at the moment. The positive growth trend is expected to continue going forward. Easing currency pressure will also benefit margins of these stocks in the second half of 2016.