Consumer confidence – what does it mean for investors?

The UK consumer confidence index measures the level of confidence across a range of economic and financial topics. Consumers are surveyed on areas like personal finances, the wider economy, major purchases, and savings.

The outcome is an index closely watched by economists and investors alike. It gives a snapshot of how people view the state of their personal finances and the economy. That’s important as it gives us an idea of what public spending behaviours could look like.

What does the consumer index tell us?

During times of severe economic turmoil, the index has typically dropped as consumers are more likely to be cautious with their spending. As you might be able to guess, two of the lowest index positions in recent history came from the financial crisis and the start of the pandemic.

Since the pandemic, we’ve seen the index slowly rise as restrictions eased and the outlook for the economy improved. That was until midway through last year when the trajectory reversed. Since then, it’s slowly been falling back down.

There are three main reasons why. First, inflation has been rising – up 5.4% in December. That means the prices of everyday items are increasing, reducing the amount of disposable income households have.

The second relates to interest rates, which have just been raised to 0.5% in the UK. Raising rates is a way central banks look to fight inflation. It makes borrowing more expensive and consumers get more for their cash savings. That makes consumers less likely to spend and reduces demand for goods and services.

Finally, we have soaring energy prices. The cost of gas for energy suppliers has more than doubled from last year and those costs are feeding down to larger energy bills for consumers. That’s another pinch on wallets that means non-essential spending might take a backseat.

That all sounds like a rather sombre backdrop. And falling consumer confidence and spending will certainly be a headwind for businesses offering discretionary goods and services. You’re less likely to splash out on a new TV when your energy bills are through the roof.

What should investors do when consumer confidence is low?

We would always recommend investing with a long-term view. That means investing in things you understand, and in high quality companies that can weather ups and downs in the economy. But there are some sectors worth considering for those worried about what the current subdued sentiment might mean.

Some businesses have the power to push on irrelevant of how consumers are feeling. Strong brands can lure us in, and some products are essential enough that we’ll always need them, or cater to customers that simply aren’t phased by rising costs.

This article is not personal advice, if you’re unsure whether an investment is right for you, seek advice. All investments can fall as well as rise in value, so you could make a loss.

Investing in individual companies isn’t right for everyone – it’s higher risk as your investment is dependent on the fate of that company. If a company fails, you risk losing your whole investment. You should make sure you understand the companies you’re investing in, their specific risks, and make sure any shares you own are held as part of a diversified portfolio.

The lure of luxury

Some customers are lucky enough to be in a financial position where wider economic pressures have a smaller impact. For businesses providing luxury items to wealthy customers, a dip in consumer confidence is unlikely to move the dial much.

Burberry’s a prime example of a business looking to attract these high-end clients. Its new proposition puts it right at the top end of the luxury ladder. The revamp, brainchild of the now leaving CEO Marco Gobetti, involved cutting ties with non-luxury partners, reducing outlet activity, and stopping in-store discounts.

Operating at the higher end of the luxury market means prices can be raised and, if volumes are sticky, margins come along for the ride. High margins are a trend we can see across the luxury goods sector and while Burberry currently lag their peers, management expect the group to push towards 20% margins by 2024.

Operating profit margin

Source: Refinitiv Eikon Datastream, 14.02.2022.

A major part of the business proposition for luxury goods providers is their branding. That’s where LVMH thrives, with some of the biggest and most powerful brands on the planet – from Louis Vuitton to the recently acquired Tiffany & Co.

Truth be told, all the major players in the luxury goods sector have strong brands, and that helps keep customers coming back and craving more. That’s a useful position to be in if confidence in the wider economy is falling.

While we’re supportive of most luxury brands, it’s worth keeping in mind investors usually have to pay for that strength, with higher price to earnings (PE) ratios. That’s a mark of confidence but also increases the risk of ups and downs and there are no guarantees.

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Everyone needs groceries

Whether confidence is down or not, we all need to eat. That makes the grocery sector relatively resilient to drops in consumer confidence and spending. That means for all the grocers, some level of revenue is all but guaranteed. But competition in the sector is fierce, and those offering lower prices than their peers could stand to benefit in today’s uncertainty.

Tesco’s been trying to do just that, sliding down the value scale with campaigns like ‘Aldi Price Match’ and ‘Everyday Low Prices’. The group’s also been leveraging its clubcard customer base, which now has 8.5 million app users. It allows them to take advantage of reduced prices on some of the products they buy on a regular basis. That helped Tesco build longer-term relationships with its customers and should keep them coming back for more, despite tighter purse strings.

But lowering prices to attract cash strapped customers does have its drawbacks. It weighs on margins and puts pressure on volumes to keep the profits flowing.

As with all things, there’s more than one strategy. Some grocery businesses are less interested in an all-out price war.

M&S sits at the more premium end of the price spectrum. In a similar fashion to the high-end luxury goods businesses, its customers should be less impacted by rising costs and general uncertainty. Although, it’s a bit too soon to say for sure exactly how loyal its customer base will be.

Ultimately, we don’t see customers stopping their food shops because they’re less confident in the economy or their finances. We like names in the sector that either offer good value for customers or have the branding power to price high and attract the big earners. While conditions continue to shake out, it’s a waiting game to see who will come out on top in the battle for market share.

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What’s next?

We don’t know which way consumer confidence will move from here, and we’d never recommend making investment decisions based on a single metric. The consumer confidence index is just one tool in an investor’s arsenal.

However now could be a good time to take a look at your portfolio and make sure you’re well-diversified. That way, some parts of your portfolio could pick up the slack when other areas are under pressure.

These estimates are not a reliable indicator of future performance. Past performance is not a guide to the future. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research disclosure for more information.

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