Consumer cyclical ETFs have merely tracked rather than led the recent equity rally. But big money thinks that may change soon.
Since Oct. 4, 2011, U.S. equities have pushed sharply higher, Tuesday’s bath notwithstanding.
If a rallying market signals an expanding economy, consumer cyclical sector ETFs should be the train to ride. There’s only one problem. This time the recovery lacks the key driver for consumer cyclicals to take off, namely paychecks.
This may explain why consumer cyclicals have barely beaten broad equities since Oct. 4.
As a proxy for the segment, I chose the largest consumer cyclical ETFs by assets: the Consumer Discretionary Select Sector SPDR Fund (NYSEArca: XLY).
To represent the broad U.S. equity market, I used the SPDR S&P 500 (NYSEArca: SPY).
With returns of 25.5 percent, XLY beat SPY, but not by much. SPY jumped an impressive 23.4 percent during that same period, from Oct. 4 through March 1.
What’s more, four other sectors beat consumer cyclical stocks during the same period. I used other SPDR sector ETFs as proxies.
Follow the Money
Despite consumer cyclicals’ uninspiring performance here, almost $1 billion in net new money flowed into the top four funds during the period.
Big inflows into these funds suggest that smart money thinks the sector is primed to take off. But why?
Maybe investors are looking for returns from something other than Apple. The tech juggernaut delivered an incredible 46 percent total return from Oct. 4 to March 1. But if you own the S&P 500, you’ve already got 4 percent in Apple stock and perhaps want to look for another growth engine.
Or maybe the investors behind the net flows into consumer cyclicals think that honest-to-goodness hiring and wage growth are near at hand, and with it, more discretionary spending.
Or, perhaps they think that, at minimum, U.S. consumers—feeling more confident, if not truly richer—will release pent-up demand after keeping their wallets closed over the past three or four years.
The four largest funds in the consumer cyclical sector hold what they call either “consumer discretionary” stocks or “consumer services” stocks. While stocks in these groups certainly overlap, large differences exist right at the top of the holdings list.
For example, XLY, a consumer discretionary fund, holds Ford Motor Co. But the iShares Dow Jones U.S. Consumer Services Index Fund (NYSEArca: IYC) doesn’t. It holds Walmart instead.
Differing stock universes aside, the funds’ selection and weighting processes play a huge role too. The second-largest consumer cyclicals fund by assets is First Trust’s Consumer discretionary AlphaDex Fund (NYSEArca: FXD), which selects and weights stocks with a multifactor model rather than the usual cap-weighted approach.
These differences in the stock universe and in selection and weighting processes help explain some of the performance discrepancies.