Buy the consumer stocks. That is the investing advice out of Jefferies, as it expects wages to rise and labor to benefit more than capital under Trumponomics –policies expected from the Republican president-elect Donald Trump.
“The unfolding of Trump’s policies will occur at a time when wages are increasing,” the bank’s team led by Sean Darby, Jefferies’ chief global equity strategist, wrote in the report titled, “U.S. 2017: A Bumpy Road Ahead.”
“Owning domestic consumer names will be just as important as acquiring fiscal multipliers such as infrastructure and defense spending,” it added, alluding to the anticipated fiscal stimulus.
Jefferies expects domestic brands over multinational ones, even though U.S. growth is expected to spur incomes across the globe in 2017. It has set a target for the S&P 500 of near 2,325 in 2017.
While many are certain about a fiscal stimulus, much uncertainty surrounds its size as well as timing. Regardless, Darby said, it will tilt more favorably towards labor rather than capital.
“We are not against the defensive sectors given their domestic exposure, but they had become very over-owned on the back of the ‘reach for yield’ theme and we would expect investors to rotate into more cyclically exposed sectors that offer operational and financial leverage. Industrials and materials would offer the best earnings environment. We have also been keen to own sectors which are positively correlated to U.S. break-even inflation yields.”
Consumer stocks to benefit from sales expansion
Jefferies expects consumer firms to also finally expand sales, which have been disappointing over the past four years. “The market is looking for an aggressive pick-up of 5.4% y-y but this is heavily influenced by energy,” Jefferies said. But his earnings estimates are still a cautious 7.4% y-y for a number of reasons, among them the delayed effect of a likely fiscal stimulus, and the dollar’s rising strength.
“…assumptions of double-digit earnings growth in 2017 seem quite aggressive, but a glance at the sector breakdown shows that the energy sector is responsible for a large slice of the upgrade. So while overall profits seem to have bottomed out in 2Q to 3Q16, the two headwinds for earnings are the same as 2016, the dollar and the inventory overhang.”
Equity investors will need to balance the impact of a stronger dollar, strength of domestic spending and growth in wages. Sectors with pricing power that can manage their margins ought to beat the rest of the field while “our style analysis suggests that companies with the ability to raise dividends could remain well bid in an environment.”
The other “potential surprise” that could benefit all companies is a change in the corporate tax. Trump has proposed a 15% rate – nearly half the current effective rate.
Jefferies reckons the five-year average for S&P 500 companies was around 30%, and a three-year average of 32%. Based on the Du Pont Analysis, the three-year average tax burden was estimated at 28%.
“Hence, if there is a one-off cut in the headline tax rate to 15%, U.S. companies theoretically could see an EPS boost of 18% straight to the bottom line of next year’s earnings,” Darby said.