2023-10-17 08:52:03 ET
Summary
- Consumer staples names within the S&P 500 have been punished this year.
- GLP-1-driven concerns about the shape of the future demand curve are warranted but likely overblown.
- The equal-weighted RSPS offers a cheaper vehicle to ride a potential staples recovery.
Consumer staples have long been a great place to allocate capital in the US, but this year's serial underperformance has bucked that trend. On the one hand, you have economic headwinds, particularly with rates poised to stay elevated for longer and 'sticky' inflation squeezing out household purchasing power. But these are temporary concerns; the more pressing overhang is GLP-1 drugs (e.g., anti-obesity drugs like Ozempic and Wegovy by Novo Nordisk (NVO) that suppress appetites and reduce cravings) and their structural impact on the earnings power of staples.
These concerns seem misplaced, in my view, given many of the largest consumer staples names are diversified retailers - Walmart (WMT), for instance, has in-store pharmacies and has benefited from GLP-1 sales thus far. Even sub-sectors like packaged foods and beverages, prime GLP-1 targets, feature companies with great brand equity and established track records of adapting to changes in consumer behavior through the cycles. Alongside incremental earnings potential from easing input costs and international expansion tailwinds, it's hard to look past the overly penalized staples group here.
For investors looking for more diversified exposure in the face of an increasingly concentrated market, an equal-weighted sector ETF like Invesco's S&P 500 Equal Weight Consumer Staples ETF ( RSPS ) is worth looking at.
Fund Overview - A Staples Pure Play Without the Concentration
The Invesco S&P 500 Equal Weight Consumer Staples ETF tracks (pre-expenses) the performance of the largest publicly traded US consumer staples universe via an equally weighted basket (subject to quarterly rebalancing) spanning categories like food, beverage, and tobacco to household products. RSPS is one of the smaller staples ETF options at $534m of net assets - by comparison, key comparables like the iShares US Consumer Staples ETF (IYK) and the Vanguard Consumer Staples ETF (VDC) have $1.4bn and $7.7bn, respectively. The fund's expense ratio of 0.4% is notably in line with IYK, though both ETFs lag the best-in-class fee structure of VDC.
Unlike IYK and VDC, the fund's equal-weighted approach keeps its staples exposure better spread out across categories. Food products (36.1%) and distribution & retail (22.1%) are the largest RSPS category exposures, followed by beverages (17.8%) and household products (13.2%).
The single stock portfolio is capped at 2%, though the fund's quarterly rebalancing means relative outperformers can overshoot in the interim. Currently, the RSPS single-stock portfolio is led by Walgreens Boots Alliance Inc (WBA) at 3.1%, Costco (COST) at 3.0%, and Philip Morris International (PM) at 2.9%. Staples ETFs without equal weights, on the other hand, skew heavily toward Procter & Gamble (PG), Costco, Walmart, and PepsiCo (PEP).
Fund Performance - Ideal Balance of Income and Capital Growth
It hasn't been a great year for consumer staples as a group, and the equal-weighted RSPS has borne the brunt of the YTD drawdown (-10.3% vs the uncapped S&P 500 Consumer Staples Index at -4.8%). Similarly, RSPS' +5.7% and +8.4% over the last five and ten years have underwhelmed relative to IYK and VOC, though these funds do have exposure to higher-growth mid and small-cap stocks.
Over longer time horizons, on the other hand, RSPS' emphasis on quality and diversification has proven to be a winning strategy at +9.3% annualized NAV returns since its inception in 2006. The consistently low tracking error vs the S&P 500 Equal Weight Consumer Staples Index (after accounting for expenses) has also been impressive, given the fund's rebalancing requirements.
What RSPS has lacked in capital growth, it makes up for in income. The fund's quarterly distribution continues to pace well ahead of comparable staples ETFs, with the trailing distribution yield now at 3.2% (30-day SEC yield at 2.8%). By comparison, key peer IYK offers a trailing yield of 2.8% (2.6% 30-Day SEC Yield), a result of its more concentrated portfolio and lower-yielding small/mid-cap exposure. Given the stability and compounding potential of RSPS' portfolio earnings, I have no issues underwriting this pace of capital return into the mid to long term.
The other key advantage to owning RSPS here is the portfolio's relative valuation. At current levels, RSPS screens rather cheaply at ~18x fwd P/E - despite generating a best-in-class 46% ROE. Comparable staples ETFs like VDC and IYK are currently priced multiple turns higher at 22x P/E and 20x P/E, respectively.
Consumption at Risk…or is it?
The consumer staples group has successfully weathered several storms over the last decade, each time proving its resiliency and adaptability in the face of changing consumer preferences. In a similar vein, a new headwind has emerged this year - highly effective GLP-1 anti-obesity drugs that trigger weight loss by curbing appetites and, by extension, lower consumer calorie intakes. Early reports indicate a > 20% caloric reduction potential , which, depending on the future uptake % across the population, poses a sizeable headwind for food and beverage staples names.
Yet, the drawdown in 'food at home' staples seems excessive, particularly given the lower efficacy on the non-obese, as well as the side effects (mainly gastrointestinal) at higher dosages. The de-rating also underestimates the strong execution capabilities of the blue chips in the RSPS portfolio, many of which have proven track records of leading health-focused innovation within their key categories (e.g., zero-calorie lines, weight management products, etc.). There are also underpenetrated international opportunities to consider, along with positive earnings momentum from a continued post-COVID margin recovery as input costs and supply chains normalize.
Even if we do see a big hit to the 'food at home' staples category, it's worth keeping in mind that the consumer staples group also covers GLP-1 beneficiaries. For instance, diversified retailers operate in-store pharmacies, in addition to pharmacy store chains like WBA (currently the largest RSPS holding). WMT, for instance, has already reported a GLP-1-driven lift to its traffic numbers, driving a ~100bps benefit to US same-store sales last quarter. Given the distribution reach of these retailers, increased GLP-1 penetration could entail margin upside in the future as well, helped by their scale-driven negotiating leverage. More broadly, I don't expect the inelastic consumer staples demand curve (more so in the blue chips) to meaningfully change anytime soon - even through the GLP-1 or economic-related headwinds ahead.
Fade GLP-1 Concerns; Buy the Consumer Staples Dip
Having boasted one of the best long-term value creation track records in the S&P 500 (SPY), the US consumer staples group has come under pressure this year amid concerns about the economic outlook and GLP-1 drugs' impact on demand. Near-term headwinds aside, I think it's far too early to be underwriting any structural impairments to their pricing power, particularly given that many of the largest staples sector components either operate pharmacies or have adjacent pharmacy businesses in-store.
Even the likes of packaged foods and non-alcoholic beverages have plenty of levers to weather a mass reduction in calorie consumption (assuming it materializes). And in the long run, the ability of these companies to adjust to new consumer trends shouldn't be underestimated either.
Having de-rated to ~18x fwd earnings for a portfolio of defensive staples generating 46% ROEs, the RSPS sector ETF screens cheaply as a play on consumer resilience.
For further details see:
RSPS: Fade GLP-1 Concerns, Buy The Consumer Staples Dip