Companies in the consumer discretionary sector provide products and services considered luxuries or non-necessities. Some consumer discretionary stocks include companies selling automobiles, apparel and electronics.
What is consumer discretionary?
The consumer discretionary sector is one of the eleven sectors of the Standard & Poor's 500 stock market index. The sector comprises retailers, media companies, and manufacturers of consumer products. The sector is considered a leading indicator of economic activity, as consumer spending accounts for a significant portion of gross domestic product (GDP).
Many consumer discretionary companies offer products and services that cater to specific niche markets. For example, a company that manufactures luxury automobiles may only sell to a small segment of the population that can afford to pay for such a product. Similarly, a company that produces high-end fashion apparel may only sell to a small portion of the population willing and able to pay for designer clothing.
The consumer discretionary sector can be a great place to find growth stocks. This is because companies in this sector often benefit from strong consumer spending. When consumers spend money, companies in the consumer discretionary sector often see their sales and profits increase.
Learn more: Consumer staples vs. consumer discretionary
Consumer Discretionary Stocks and Volatility
The consumer discretionary sector is often one of the most volatile sectors in the stock market. Consumers tend to spend more money on discretionary items when the economy is doing well. However, when the economy is struggling, consumers may cut back on their spending on discretionary items. This is what makes them cyclical stocks.
As high volatility stocks, companies in the consumer discretionary sector can experience large swings in their stock prices. This fluctuation in the stock price is sometimes referred to as its beta. Beta measures a stock’s volatility compared with the broader market’s volatility overall. The market is given a beta of 1, and stocks with a beta higher than 1 are said to be more volatile than the market itself. Volatility can also occur in the opposite direction, with stocks having a beta of less than 1. The three-year beta for the Consumer Discretionary Select Sector SPDR Fund (NYSEARCA: XLY) is 1.08, thus making it more volatile than average. Learn more about the best consumer discretionary ETFs, which could offer more diversification for your portfolio.
Some causes of volatility for consumer discretionary stocks can include changes in interest rates. When interest rates are low, stock prices tend to be high. This is because low-interest rates make it cheaper for companies to borrow money, which can be used to invest in growth.
However, there is not always a direct correlation between interest rates and stock prices. For example, if the economy is weak, then companies may be less likely to borrow money and invest in growth, even if interest rates are low. In this case, stock prices may fall even when interest rates are low.
Learn more: What does the Consumer Price Index measure?
Top Consumer Discretionary Stocks List
There are many different types of consumer discretionary stocks available to investors, but some are better than others. Here are a few top consumer discretionary stocks to consider adding to your portfolio. Don't forget to check out our best consumer discretionary stocks of 2023.
Amazon.com Inc. (NASDAQ: AMZN)
Amazon is a global leader in e-commerce and continues to grow at an incredible rate. This growth is partially driven by strong demand for Amazon’s Prime membership service. Amazon’s online retailing places it at the core of the consumer discretionary sector.
Home Depot Inc. (NYSE: HD)
Home Depot is the world’s largest home improvement retailer. Home Depot benefits from a strong housing market, as more homeowners undertake projects during this time to improve their households. The company also sells large amounts of consumer staples, which may give its sales some cushioning during a downturn.
McDonald’s Corporation (NYSE: MCD)
McDonald’s is the world’s largest fast-food chain. McDonald’sbenefits from a strong global brand and a vast network of restaurant locations. Despite its famous cheap prices, the restaurant brand is generally considered a discretionary stock because this industry is affected by gas prices and income changes.
Nike Inc. (NYSE: NKE)
Nike is the world’s largest sporting goods company. Nike’s famous clothing and footwear brand sells best when times are good due to their premium quality and price tag. These luxuries are first to be cut from household budgets when a downturn occurs.
Starbucks Corporation (NASDAQ: SBUX)
Starbucks is the world’s largest coffee chain. Coffee is undeniably a luxury that people can’t live without - or alternatively, won’t die from lacking it. When the economy starts going bad, people on a tight budget start looking for an alternative for their caffeine fix, such as buying it from the supermarket instead of ordering out.
How to Pick the Best Consumer Discretionary Stocks
It’s no secret that the stock market can be a volatile place. But for those who are willing to take on some risk, there can be a lot of rewards to be had for those who invest in consumer discretionary stocks.
While this may seem like a risky place to invest, the truth is that these companies often benefit the most from economic growth. When consumers have more money to spend, they are more likely to splurge on discretionary items.
So, if you’re looking for the best consumer discretionary stocks to buy, here are a few things to keep in mind.
Look for companies with strong brands.
The consumer discretionary sector is filled with companies that have strong brands. These are the types of companies that consumers are loyal to and are willing to pay a premium for.
Some of the best consumer discretionary stocks to buy have brand names that are recognized around the world. These companies have built up a lot of equity in their brands and can command a higher price for their products.
Look for companies with strong growth prospects.
When you’re looking for the best consumer discretionary stocks to buy, you want to find companies with strong growth prospects. Look for companies that are expanding into new markets or launching new products.
These companies are the ones that are most likely to see their stock prices rise as they grow.
Look for companies with solid financials.
Of course, you don’t want to invest in a company that is on the verge of bankruptcy. So, be sure to look for companies with solid financials.
Look for companies that have strong balance sheets and are profitable. These are the types of companies that are more likely to weather economic downturns and still be standing when the economy recovers.
Look for companies with a history of dividend payments.
Another thing to look for when you’re searching for the best consumer discretionary stocks to buy is a history of dividend payments. Companies with a history of paying dividends are usually more stable and weather economic downturns better.
Plus, dividend payments can provide you with a source of income as you wait for the stock price to rebound.
Be patient.
Finally, it’s important to be patient when you’re investing in the consumer discretionary sector. This sector can be volatile, so it’s important to have a long-term perspective.
Investing in the consumer discretionary sector can be a great way to achieve long-term growth. But it’s important to do your homework and to be patient. If you do, you’ll be well-positioned to profit from the sector’s long-term growth potential.
What Makes a Good Consumer Discretionary Stock?
When looking for a good consumer discretionary stock, investors should consider factors such as the company's financial stability, its ability to generate revenue and profit, and its competitive advantages.
A company's financial stability can be measured by its debt-to-equity ratio, which is a good indicator of its ability to pay its debts. A company with a lower debt-to-equity ratio is typically more financially stable than a company with a higher ratio.
A company's ability to generate revenue and profit can be measured by its top-line and bottom-line growth. A company with strong top-line growth is typically able to generate more revenue, while a company with strong bottom-line growth is typically more profitable.
A company's competitive advantages can be measured by its market share and its competitive position in its industry. A company with a large market share is typically more dominant in its industry, while a company with a strong competitive position is typically more protected from competition.
Mistakes to Avoid When Investing in Consumer Discretionary Stocks
It's a good idea to learn the ins and outs of how the economy works to avoid mistakes when investing in consumer discretionary stocks. Learn more: How does Consumer Price Index affect stock market?
- Not knowing the difference between consumer discretionary and consumer staples: Many people think they are the same, but in reality, they are two very different types of stocks.
- Consumer discretionary stocks are much more volatile and risky and are therefore not suitable for everyone. Staples are products people typically cannot live without. Think basic foods and hygiene products.
- These types of companies, such as Dollar Tree (NASDAQ: DLTR), have stocks with lower volatility than the broader market as its products are in demand even during a recession.
- You must research any stock before investing, especially consumer discretionary stocks. Before investing, ensure you know everything you can about the company and the sector.
- Not having a diversified portfolio: It is important to diversify your portfolio so that you are not too exposed to any one sector or company. This is especially important with consumer discretionary stocks, which can be very volatile.
- Trying to time the market: It is impossible to predict the market, and attempting to do so is a surefire way to lose money. When investing in consumer discretionary stocks, it is important to take a long-term approach.
- Not having an exit strategy: Before investing in any stock, you should have an exit strategy in place. This is even more important with consumer discretionary stocks, as they can quickly lose a lot of value.
An exchange-traded fund (ETF) is an investment fund that tracks an index, a commodity, or a basket of assets like an index fund but trades like a stock on an exchange. ETFs are one of the fastest-growing products in the investment industry.
A consumer discretionary ETF is an ETF that invests in stocks of companies that produce goods and services that are not necessary for survival.
The largest consumer discretionary ETF is the Consumer Discretionary Select Sector SPDR Fund (NYSEARCA: XLY), which tracks the performance of the Consumer Discretionary Select Sector Index.
Other consumer discretionary ETFs include the VanEck Vectors Retail ETF (NYSEARCA: RTHCRRD), the First Trust Consumer Discretionary AlphaDEX Fund (NYSEARCA: FXD), and the iShares Edge MSCI USA Consumer Discretionary Momentum Factor ETF (BATS: MTUM).
