Daniel Miller
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Consumer Discretionary stocks have surged during the past month, more than any other Global Industry Classification Standard [GISC] sector, nearing their previous advance of 8.9 percent in October 2003. As of Thursday’s close, the S&P 500 Consumer Discretionary Index has risen 7.5% so far during the month of August.
Conversely, Bloomberg reported earlier this week that the bond market has signaled that investors are seeking increased risk premiums for consumer discretionary companies. 
The consumer discretionary sector demanded a 2.5 percent premium over U.S. Treasuries this week, and according to data compiled to Bloomberg, this move signals a broad based decline in consumer discretionary stocks. The data stated that when the yield spread widened to over 245 basis points, the consumer discretionary sector lost an average of 16 percent in 2000, 2002, 2005, and March of 2008 (image courtesy of Bloomberg).
Proponents of the consumer discretionary rally “rolling-over” argue that the U.S. economy won’t recover for some time and that the decline in credit markets will continue to hurt the consumer. Earnings by consumer discretionary companies have fallen dramatically during the past year, as consumers have been reduced their discretionary spending. Historically, declines in the housing market have coincided with large declines in consumer spending, as investors become concerned with the falling values of their homes. A study by Karl Case, John Quigley, and Robert Shiller found that the wealth effect (the link between declines in asset classes and declines in consumer spending) from housing is more significant than declines in equity markets.
However, one must always question what is already priced into stocks. Although the economy shows little signs of the consumer recovering in the near future, the stock market is a discounting mechanism where the recovery in the stock market precedes the economic recovery. More than 91 percent of the S&P 500 retailers which have reported second quarter earnings have topped the Wall Street consensus forecast so far. In a Bloomberg Television interview, LPL Financial’s chief market strategist Jeffrey Kleintop said, “The outlook isn't rosy, but certainly better than what had been priced into those stocks.”
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