Investing in Top Consumer Discretionary Stocks

When it comes to shopping, there are things that you need and things that are mostly just nice to have. The consumer discretionary sector is in that second category -- the goods and services that people spend money on when they have a little extra cash available like travel, going out to restaurants, or fashion and jewelry.

Unlike consumer staples companies -- which make necessities -- consumer discretionary stocks tend to do well when the economy is strong and poorly when times are tough. Keep reading to learn about the consumer discretionary sector and see some stocks to consider.

Understanding consumer discretionary stocks

Consumer discretionary businesses cover several different industries, but all rely on consumers spending money that they don't need to spend.

Consumer discretionary companies include the following types of businesses:

• Makers of furniture, appliances, housewares, and other home furnishings
• Consumer electronics manufacturers
• Apparel and luxury goods companies
• Retailers of various kinds, including department stores, home-improvement retailers, electronics retailers, home furnishers, and apparel stores
• Direct-to-consumer retailers that sell goods by catalog, mail, or via e-commerce
• Hotel, resort, and casino operators
• Restaurant companies
• Cruise operators

Consumer discretionary stock prices tend to rise and fall with the overall economy, making them cyclical stocks. Although the COVID-19 pandemic created unprecedented challenges for many consumer discretionary companies, with the economy reopening, investors have a unique opportunity in the sector.

Focusing on well-known brands and industry leaders in this sector is generally a formula for success; the top stocks have long been winners for investors. These companies should also emerge stronger from the pandemic since many of them have captured market share from stumbling rivals and have deeper pockets to invest in the recovery.

Top consumer discretionary stocks

Several consumer discretionary companies stand out as being among the best in their industries:

1. Nike

Nike has established a dominant position in athletic footwear and apparel, with more than half a century of innovation in making sportswear appealing to a broad consumer audience. The strength of Nike's business model stems from its product innovation, marketing strength, and use of celebrity endorsements, tying the success of high-profile athletes to the company's products.

Long after Michael Jordan left the professional basketball court, Air Jordan shoes remain a mainstay of Nike's business. Nike’s market share of athletic footwear, recently estimated at 39%, puts it well ahead of international competitors Adidas (OTC:ADDYY) and ASICS (OTC:ASCCF). And, with the global sportswear company working to play a bigger role in fast-growing areas such as China, the sky's the limit for Nike's future growth.

Although COVID-19 has affected Nike’s business and tight restrictions in China have weighed on performance in that region, the pandemic has also accelerated the company’s shift to digital and direct channels, which is a key part of the company's strategy. Nike has built a strong digital ecosystem around apps such as SNKRS and the Nike Training Club, which has buffered much of the impact. Even as revenue growth has been sluggish during the pandemic, the company has delivered solid profits.

2. Starbucks

The coffee company plays a major role in how much of the world's population starts the day by visiting its ubiquitous coffeehouses. By introducing the European café concept to the U.S., Starbucks tapped into consumers’ urge to treat themselves to small luxuries, and its premium beverages now have a loyal following the world over.

You can see the company’s success in its comparable-store sales, which have a history of growing steadily. Although those sales numbers fell sharply during the pandemic, Starbucks is rebounding in the U.S. However, it’s facing similar challenges to Nike in China as its zero-Covid policy has cooled off sales there.

Starbucks was also able to gain market share during the pandemic due to the strength of its brand, tech initiatives, and financial flexibility, while rivals like independent cafés struggled. As of April 2022, the company had more than 34,630 locations across the globe and expects to have 55,000 locations by 2030, indicating no shortage of growth opportunities.

3. McDonald's

McDonald's has come a long way from its heyday in the mid-20th century, and the fast-food colossus has worked hard to keep up with the times. Innovations such as digital menus that automatically change throughout the day, automated kiosks for ordering, online and mobile order capabilities, and delivery options are making McDonald's more accessible than ever.

At the same time, the restaurant chain still has an emphasis on value that keeps customers coming back for more, and its drive-thrus helped it weather the pandemic better than many others. Although it’s a restaurant chain, the emphasis on value gives it some elements of a consumer staples company. After all, everybody needs to eat, and it’s easy to get a cheap, convenient meal at McDonald’s.

It also owns much of the real estate that its franchised restaurants occupy, allowing it to collect rent while franchisees do the hard work of running restaurants.

Even in the ever-changing restaurant space, McDonald's has found a way to stay relevant. Investors also like McDonald's for its consistent dividend payments. It has increased payments to shareholders each year since the mid-1970s, making the company a Dividend Aristocrat. With a payout ratio of around 60% of earnings, McDonald's can comfortably maintain its dividend.

4. TJX Companies

Off-price retail giant TJX Companies has found success in apparel and home goods with a business model that’s not easily replicated online. The parent company of TJ Maxx, Marshall’s, and Home Goods obtains discounted brand-name merchandise through close-out sales, manufacturer errors, and order cancellations, and then sells that merchandise at 20% to 60% discounts.

The company's business has generated wide profit margins and solid growth over the years, and it plans to expand to more than 6,000 stores globally, up from about 4,500 today.

Although TJX took a hit during the pandemic like other discretionary retailers, the company bounced back in 2021. While apparel and home goods retailers are facing headwinds in 2022 as consumer spending shifts back to services, TJX still expects modest comparable sales growth for the year.

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5. The Walt Disney Company

This household name in family entertainment has been a staple of U.S. pop culture for generations. The company’s theme parks and animated movies are popular the world over. Today, the company also owns ABC, ESPN, Pixar, Marvel, Star Wars, a majority stake in Hulu, and a vast array of assets that it acquired from Fox in a 2019 deal.

Disney has a number of competitive strengths, including an unrivaled trove of intellectual property and a business model that enables successful movies such as Frozen to be spun into multiple business lines, including theme park rides, toys, consumer products and even live entertainment.

The company was affected on multiple fronts by the pandemic. Its theme parks were shut down or operating at limited capacity, movie theaters went dark, and live sports were even canceled for several months. However, the company has found a winner with its streaming service, Disney+, which was launched in 2019 and now has more than 100 million subscribers. Disney has restructured its entertainment business to make Disney+ its centerpiece, although investors now seem concerned about slowing growth in the streaming industry, especially after Netflix (NASDAQ:NFLX) suddenly hit a wall.

With the economy continuing to reopen, Disney will likely be among the winners in the recovery. Its parks and resorts segment is well positioned to profit from surging year-over-year revenue and could even post record attendance due to pent-up demand.