VSCO - VCR: Consumer Discretionary Dashboard For November

2023-11-19 07:48:16 ET

Summary

• The consumer discretionary sector is slightly undervalued relative to 11-year averages.
• Durables and apparel have the best value score, whereas consumer services have the best quality score.
• VCR: an alternative to XLY.
• 9 consumer discretionary stocks cheaper than their peers in November 2023.

This monthly article series shows a dashboard with aggregate subsector metrics in Consumer Discretionary. It is also a top-down analysis of sector ETFs like Consumer Discretionary Select Sector SPDR ETF ( XLY ) and Vanguard Consumer Discretionary ETF ( VCR ), whose largest holdings are used to calculate these metrics.

Shortcut

The next two paragraphs in italic describe the dashboard methodology. They are necessary for new readers to understand the metrics. If you are used to this series or if you are short of time, you can skip them and go to the charts.

Base Metrics

I calculate the median value of five fundamental ratios for each subsector : Earnings Yield ("EY"), Sales Yield ("SY"), Free Cash Flow Yield ("FY"), Return on Equity ("ROE"), Gross Margin ("GM"). The reference universe includes large companies in the U.S. stock market. The five base metrics are calculated on trailing 12 months. For all of them, higher is better. EY, SY and FY are medians of the inverse of Price/Earnings, Price/Sales and Price/Free Cash Flow. They are better for statistical studies than price-to-something ratios, which are unusable or non-available when the "something" is close to zero or negative (for example, companies with negative earnings). I also look at two momentum metrics for each group: the median monthly return (RetM) and the median annual return (RetY).

I prefer medians to averages because a median splits a set in a good half and a bad half. A capital-weighted average is skewed by extreme values and the largest companies. My metrics are designed for stock-picking rather than index investing.

Value and Quality Scores

I calculate historical baselines for all metrics. They are noted respectively EYh, SYh, FYh, ROEh, GMh, and they are calculated as the averages on a look-back period of 11 years. For example, the value of EYh for retailing in the table below is the 11-year average of the median Earnings Yield in retail companies.

The Value Score ("VS") is defined as the average difference in % between the three valuation ratios (EY, SY, FY) and their baselines (EYh, SYh, FYh). The same way, the Quality Score ("QS") is the average difference between the two quality ratios (ROE, GM) and their baselines (ROEh, GMh).

The scores are in percentage points. VS may be interpreted as the percentage of undervaluation or overvaluation relative to the baseline (positive is good, negative is bad). This interpretation must be taken with caution: the baseline is an arbitrary reference, not a supposed fair value. The formula assumes that the three valuation metrics are of equal importance. A floor of -100 is set for VS and QS when the calculation goes below this value. It may happen when metrics in a sub sector are very bad.

Current Data

The next table shows the metrics and scores as of last week's closing. Columns stand for all the data named and defined above.

* capped for convenience

Value and Quality Chart

The next chart plots the Value and Quality Scores by subsector (higher is better).

Evolution Since Last Month

Consumer services have significantly improved in both valuation and quality.

Momentum

The next chart plots momentum scores based on median returns.

Interpretation

The consumer discretionary sector was undervalued by about 6% relative to 11-year averages when I published my S&P 500 dashboard for November . Durables and apparel are the most attractive subsector regarding valuation, whereas consumer services have the best quality score. Auto and components are moderately undervalued, but the quality score is below the baseline. Retailing is close to its historical baseline in value, and above it in quality.

Focus on VCR

Vanguard Consumer Discretionary ETF ( VCR ) started investing operations on 01/26/2004 and tracks the MSCI US IMI Consumer Discretionary 25/50 Index. It has 307 holdings and a total expense ratio of 0.10% (on par with XLY). It is also available as a mutual fund ( VCDAX ).

The next table shows the top 10 holdings with fundamental ratios and dividend yields. Their aggregate weight is 62%, with 37% in two companies: Amazon ( AMZN ) and Tesla ( TSLA ) represent 24% and 13% of the fund’s asset value.

Ratios by Portfolio123

VCR has outperformed XLY by 45% in total return since 2/1/2004. However, the difference is insignificant in annualized return: 36 bps. It is also a bit more volatile, and as a result the two funds have the same Sharpe ratio (risk-adjusted performance).

Data calculated with Portfolio123

In summary, VCR provides capital-weighted exposure to the consumer discretionary sector for a cheap management fee. It holds much more stocks than XLY (307 vs. 55), but it is also very concentrated in the top holdings and it doesn’t make a significant difference in performance since 2004. VCR and XLY are equivalents for long-term investors, but XLY has higher trading volumes, making it a better instrument for short-term trading. Both funds are overweight in two companies: Amazon and Tesla. Investors seeking a balanced portfolio in the sector may prefer Invesco S&P 500 Equal Weight Consumer Discretionary ETF ( RSPD ).

Dashboard List

I use the first table to calculate value and quality scores. It may also be used in a stock-picking process to check how companies stand among their peers. For example, the EY column tells us that a retail company with an Earnings Yield above 0.0535 (or price/earnings below 18.69) is in the better half of the industry regarding this metric. A Dashboard List is sent every month to subscribers with the most profitable companies standing in the better half among their peers regarding the three valuation metrics at the same time. The list below was sent to subscribers several weeks ago based on data available at this time.

It is a rotational model with a statistical bias toward excess returns on the long-term, not the result of an analysis of each stock.

For further details see: