Sales of Alcoholic Beverages Dry Up, Leaving Some Bargains in Consumer Defensive Stocks

The consumer defensive sector again proved buoyant despite choppy market conditions in the second quarter, shedding just 4.7% through June 27 versus a 14.2% drop in the broader market.

The Market Found Favor With Consumer Defensive This Quarter

- Source: U.S. Bureau of Labor Statistics, IRI POS, IRI Client Engagement, Morningstar.

Still, this has left investors with few undervalued opportunities, as the median consumer defensive stock is fairly valued from our vantage point. This translates to only 35% of our consumer defensive coverage with 4- or 5-star ratings, with the vast majority falling in the alcoholic beverage aisle. We suspect shares have been hampered by rising inflation and its potential impact on consumer spending (particularly in the on-premises realm). However, we think this sentiment is a bit pessimistic, given the enhanced levels of brand investment firms began employing even before the pandemic.

In a Heated Space, We Think Alcoholic Beverage Names Look Undervalued

- Source: U.S. Bureau of Labor Statistics, IRI POS, IRI Client Engagement, Morningstar.

Even as inflation has come barreling back (across raw materials, transportation, packaging, and labor), we've long held that consumer product manufacturers have a number of tools at their disposal to buffer profits, including raising prices, pursuing cost-saving initiatives (which could encompass the adoption of increased automation and thus a lower dependence on labor), and employing revenue management opportunities. However, since inflation has shown little signs of tapering and some firms have already raised prices multiple times, we think continued brand spending will be needed to circumvent a hit to volumes.

Commodity Prices Have Skyrocketed After Years of Dormancy

- Source: U.S. Bureau of Labor Statistics, IRI POS, IRI Client Engagement, Morningstar.

And despite increased prices at the shelf, shoppers have been resilient so far, with rising wages and fairly high savings levels through the pandemic helping to offset cost increases, leaving consumer spending largely unscathed. (In real terms, personal consumption expenditures rose 3% in April 2022 from the same period a year ago.)

However, sharply higher fuel prices in the wake of Russia's February invasion of Ukraine have exacerbated pocketbook pressures. This has led to more consumers trading down to private-label products in a handful of food, household, and personal-care categories. We don’t think these pressures are poised to subside in the near term, so we maintain that its critical for firms to showcase the value-added nature of their products or risk turning off consumers and bleeding share.

Consumers Are Shifting to Lower-Priced Private-Label Fare

- Source: U.S. Bureau of Labor Statistics, IRI POS, IRI Client Engagement, Morningstar.

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