Sector breakdown is a commonly used investment tool for categorization and allocation. While sector categorization provides investors a quick, shorthand method to think about the market, they can come up short in pinpointing areas of the economy marked by rapid innovation and disruption.
Here, we look under the hood at the Consumer Discretionary sector, unpack the components therein, and show why investors should not only understand the composition of the sector, but also consider targeting innovative, digital-native consumer companies built for the future, such as those in e-commerce.
Consumer Discretionary is not the most straightforward categorization of companies. You might think food or toothpaste is included, but those companies are considered Consumer Staples. The sector also does not include the majority of discretionary expenses, such as mobile phones, as those manufacturers are in the Technology sector. So, what does Consumer Discretionary include? Retail businesses, clothing, restaurants, and autos. While hotels are included, airlines are part of the Industrial sector.
From 12/31/2010 through 3/31/2021, the S&P 500 Consumer Discretionary sector has rewarded investors, generating annualized market returns of around 18% compared to the S&P 500’s returns of just above 14%. During this time, the composition of the sector, and particularly the concentration, has changed meaningfully. As of Q1 2010, the largest industry, Specialty Retail, accounted for just under 20% of the sector, while S&P 500 Internet & Direct Marketing Retail (“Internet Retail” hereafter) accounted for around 4%. As of Q1 2021, Internet Retail had grown to 33%.
The next three largest industries account for 51% of the Consumer Discretionary sector: Hotels, Restaurants & Leisure; Specialty Retail; and Automobiles. As a result, an investment in Consumer Discretionary is more sensitive to the performance of these three segments combined than that of Internet Retail. Investors should consider whether or not this is the exposure they want.
The COVID-19 pandemic presented a unique challenge for Consumer Discretionary investors. People were not traveling, many bricks-and-mortar stores were closed, and big auto purchases seemed less of a priority in a tight job market.
These dynamics put a spotlight on a discrepancy between different components within the Consumer Discretionary sector that had been years in the making. Since the end of 2010, the Internet Retail component of Consumer Discretionary pulled away from the rest of the sector with regard to sales and profitability. Sales grew almost eight times faster than that of the next-fastest-growing discretionary segment, Household Durables.
Sales per share is a ratio that computes the total revenue earned per share over a designated time period. Consumer Discretionary line represents all other industries in the sector.
Often margins suffer when companies grow rapidly, but that is not always true. For instance, profit margin for Internet Retail improved with time, while other areas of Consumer Discretionary sector contracted.
Profit margin is defined as the amount by which revenue from sales exceeds costs in a business.
The term digital natives describes companies built with a digital-first business model that use the ubiquitous nature of the Internet as their key strategic element. The retail industry can be split between the digital natives—those with business models built for digital delivery—versus traditional retailers who have bricks-and-mortar footprints and may be attempting to adapt for an increasingly online future. Comparatively, Internet Retail margins of 6.2% were the best segment among the broader S&P 500 Retail companies (Chart 3).
Some traditional bricks-and-mortar stores have worked to maintain market share at the expense of profitability, while simultaneously trying to convert business models for a digital and on-demand marketplace. With e-commerce only accounting for 14% of total retail sales in the U.S.,1 there is still a lot of potential growth ahead. In comparison to some traditional retailers, digital natives may be better positioned to benefit from potential e-commerce growth without the need to sacrifice profit margins.
Consumer Discretionary has historically been a rewarding investment, but as the sector encapsulates a broad mix of companies, investors should ensure their Consumer Discretionary investments are giving them the exposure they want. Historically, investors have been challenged to isolate digitally native companies and dedicated e-commerce companies. Just as sector investing allowed for more precise allocations within the S&P 500, thematic investing can allow for more precise targeting within sectors, with some indexes tracking companies not available in traditional indexes.
ProShares Online Retail Index
Tracks retailers that principally sell online or through other non-store channels.
- Modified market-capitalization weighted
- May include U.S. and non-U.S. companies
- To be included, companies must:
- Be classified as an online retailer, e-commerce, or internet or direct marketing retailer
- Have market capitalization of at least $500 million
- When the index is rebalanced, no company may exceed 24% of the value of the index.
S&P 500 Consumer Discretionary Index
Comprises companies included in the S&P 500 that are classified as members of the GICS® Consumer Discretionary sector.
- Float-adjusted market cap weighted
- Only includes U.S. companies.
- To be included, companies must:
- Have an unadjusted market cap of $11.8 billion or greater and a float-adjusted market cap that is at least 50% of the unadjusted minimum market cap threshold.
Today, investors have the ability to try to focus on companies with the characteristics they may want. An example of this is the ProShares Online Retail Index, which pinpoints retailers that principally sell online or through other non-store channels, and focuses on the companies reshaping the retail space, like Amazon and Alibaba. Since November 2017, the ProShares Online Retail Index has returned 185%, compared to the 89% returned by the S&P 500 Consumer Discretionary Index for the same time period. While both indexes have had strong performance, the ProShares Online Retail Index directly benefited from the pandemic-accelerated e-commerce growth in 2020.
|Year to Date||1-Year||3-Year||Since Fund Inception||Inception Date|
|ProShares Online Retail ETF (ONLN) NAV||3.45%||139.18%||N/A||28.76%||7/13/2018|
|ProShares Online Retail ETF (ONLN) Market Price||3.43%||139.10%||N/A||28.79%||7/13/2018|
|ProShares Online Retail Index||3.62%||140.73%||N/A||29.43%||7/13/2018|
|ProShares Long Online/Short Stores ETF (CLIX) NAV||-9.50%||51.67%||23.21%||24.93%||11/14/2017|
|ProShares Long Online/Short Stores ETF (CLIX) Market Price||-9.45%||51.25%||23.29%||24.92%||11/14/2017|
|ProShares Long Online/Short Stores Index||-9.41%||52.56%||23.43%||25.22%||11/14/2017|
As of March 31, 2021. ONLN’s total operating expenses are 0.58%. CLIX’s total operating expenses are 0.65%.
High triple-digit returns were primarily achieved during favorable market conditions; an investor should not expect that such favorable conditions can be consistently achieved. A fund’s performance, especially for very short time periods, should not be the sole factor in making investment decisions.
The performance quoted represents past performance and does not guarantee future results. Investment return and principal value of an investment will fluctuate so that an investor’s shares, when sold or redeemed, may be worth more or less than the original cost.
Current performance may be lower or higher than the performance quoted. Standardized returns and performance data current to the most recent month end may be obtained by visiting ProShares.com. Index performance is for illustrative purposes only and does not represent fund performance.
Index returns do not reflect any management fees, transaction costs or expenses. Indexes are unmanaged, and one cannot invest in an index. Past performance is not a guarantee of future results.
1U.S. Department of Commerce, as of February 2021 Report.
ProShares offers ETFs that enable investors to tap into the long-term trends of retail disruption.
Lets investors potentially benefit from both the potential growth of online companies and the decline of bricks-and-mortar retailers through a long/short construction.