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Understanding the Disconnect Between Consumers and the Stock Market

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Understanding the Disconnect Between Consumers and the Stock Market

The Disconnect Between Consumers and Stock Markets

Consumer sentiment indices are relatively accurate indicators for the outlook of an economy. They rise during periods of growth as consumers become more financially confident, and fall during recessions as consumers cut back on discretionary spending.

Since the direction of the overall economy also affects stock markets, measures of consumer sentiment have historically moved in tandem with major indices like the S&P 500. Since the COVID-19 pandemic began, however, consumers and stock markets have become noticeably disjointed from one another.

To help us understand why this may be the case, this infographic charts the University of Michigan’s Index of Consumer Sentiment against the S&P 500, before diving into potential underlying factors for their divergence.

A Tale of Two Indices

Before we compare these two indices, it’s helpful to first understand how they’re comprised.

The Index of Consumer Sentiment

The University of Michigan’s Index of Consumer Sentiment (ICS) is derived from a monthly survey of consumers that aims to get a snapshot of personal finances, business conditions, and buying conditions in the market.

The survey consists of five questions (paraphrased):

  • Are you better or worse off financially compared to a year ago?
  • Will you be better or worse off financially a year in the future?
  • Will business conditions during the next year be good, bad, or other?
  • Will business conditions over the next five years be good, bad, or other?
  • Is it a good time to make large purchases such as major household appliances?

A score for each of these questions is calculated based on the percent of favorable and nonfavorable replies. The scores are then aggregated to arrive at the final index value, relative to 6.8—the 1966 base period value.

The S&P 500

The S&P 500 is a market capitalization-weighted index of the 500 largest publicly traded U.S. companies. A company’s market capitalization is calculated as its current stock price multiplied by its total number of outstanding shares.

Market caps change over time, with movements determined by daily stock price fluctuations, the issuance of new stock, or the repurchase of existing shares (also known as share buybacks).

The COVID-19 Divergence

Throughout past market cycles, these two indices have displayed some degree of correlation.

During the bull market of the ‘90s, the S&P 500 generated an astonishing 417% return, and was accompanied by a 75% increase in consumer sentiment. Critically, both indices also peaked at roughly the same time. The ICS began to decline after reaching its record high of 112.0 in January 2000, while the S&P 500 began to falter in August that same year.

Fast forwarding to 2020, we can see that these indices have responded quite differently during the pandemic so far:

IndexJan 2020 Feb 2020 Mar 2020 Apr 2020 May 2020 June 2020 July 17, 2020 
ICS Value99.810189.171.872.378.173.2
ICS YTD0.5%1.7%-10.3%-27.7%-27.2%-21.4%-26.3%
S&P 500 Value3225.52954.22584.62912.43044.33100.33224.7
S&P 500 YTD-0.2%-8.6%-20.0%-9.9%-5.8%-4.0%-0.2%

All figures as of month end unless otherwise specified. Source: Yahoo Finance

The ICS has not yet recovered from its initial decline beginning in March, whereas the S&P 500 has seemingly bounced back during the same time frame.

Examining the Disconnect

Why are stock markets failing to recognize the hardships that consumers are feeling? Let’s examine two central factors behind this disconnect.

Reason 1: Tech’s Dominance of the S&P 500

Recall that a company’s weight in the S&P 500 is determined by its market cap. This means that certain sectors can form a larger part of the index than others. Here’s how each sector sizes up:

S&P 500 SectorIndex weight as of June 30, 2020 (%)
Information technology 27.5%
Health care14.6%
Consumer discretionary10.8%
Communication services10.8% 
Financials10.1%
Industrials8.0%
Consumer staples7.0%
Utilities3.1%
Real estate2.8%
Energy2.8%
Materials2.5%

Source: S&P Global

Based on this breakdown, we can see that the information technology (IT) sector accounts for over a quarter of the S&P 500. With a weighting of 27.5%, the sector alone is bigger than the bottom six combined (Industrials to Materials).

This inequality means the performance of the IT sector has a stronger relative impact on the index’s overall returns. Within IT, we can highlight the FAANGM subset of stocks, which include some of America’s biggest names in tech:

StockMarket Cap as of June 30, 2020 ($)
Apple$1.6 trillion
Microsoft$1.5 trillion
Amazon$1.4 trillion
Google$930 billion
Facebook$668 billion
Netflix$200 billion
S&P 500 average$53 billion

Source: Yahoo Finance

These companies have grown rapidly over the past decade, and continue to perform strongly during the pandemic. If this trend continues, the S&P 500 could skew even further towards the IT sector, and become less representative of America’s overall economy.

Reason 2: The U.S. Federal Reserve

Stock prices typically reflect a company’s future earnings prospects, meaning they are influenced, to a degree, by the outlook for the broader economy.

With an ongoing pandemic and steep decline in consumer sentiment, it’s reasonable to believe that many company prospects would look bleak. This is especially true for consumer cyclicals—companies like automobile manufacturers that rely on discretionary spending.

In a somewhat controversial move, the U.S. Federal Reserve has stepped in to counter these effects by creating the Secondary Market Corporate Credit Facility (SMCCF). This facility operates two programs which ensure businesses have access to funding during the pandemic.

Corporate Bond Purchase Program
The SMCCF is currently buying corporate bonds from an index of nearly 800 companies. Of the ten largest recipients of this program, five are categorized as consumer cyclical:

IssuerCategoryIndex Weight (%)
Toyota Motor Credit CorpConsumer cyclical1.74%
Volkswagen Group AmericaConsumer cyclical1.74%
Daimler Finance NA LLCConsumer cyclical1.72%
AT&T IncCommunications1.60%
Apple IncTechnology1.60%
Verizon CommunicationsCommunications1.60%
General ElectricCapital goods1.48%
Ford Motor Credit Co LLCConsumer cyclical1.34%
Comcast CorpCommunications1.32%
BMW US Capital LLCConsumer cyclical1.25%

Source: Investopedia

This program is intended to support the flow of credit, but its announcement in June also gave stock markets a boost in confidence. With the Fed directly supporting corporations, shareholders are being shielded from risks related to declining sales and bankruptcy.

By the end of June, the SMCCF had purchased $429 million in corporate bonds.

ETF Purchase Program
The SMCCF is also authorized to purchase corporate bond ETFs, a historic first for the Fed. The facility’s five largest ETF purchases as of June 18, 2020, are detailed below:

ETF Name Purchase size ($)ETF Description
iShares iBoxx $ Investment Grade Corporate Bond ETF (LQD)$1.7 billionTracks an index composed of USD-denominated, investment grade corporate bonds.
Vanguard Short-Term Corporate Bond ETF (VCSH)$1.3 billionInvests primarily in investment grade corporate bonds, maintaining an average maturity of 1 to 5 years.
Vanguard Intermediate-Term Corporate Bond ETF (VCIT)$1.0 billionInvests primarily in investment grade corporate bonds, maintaining an average maturity of 5 to 10 years.
iShares Short-Term Corporate Bond ETF (IGSB)$608 millionTracks an index composed of USD-denominated investment-grade corporate bonds with maturities between 1 and 5 years.
SPDR Barclays High Yield Bond ETF (JNK)$412 millionSeeks to provide a diversified exposure to USD-denominated high yield corporate bonds.

Source: Investopedia

Although the SMCCF’s purchase of ETFs outsize those of corporate bonds, the Fed has signaled its intention to make direct bond purchases its primary focus going forward.

Will Markets and Consumers Reconnect Anytime Soon?

It’s hard to see the S&P 500 moving towards a more balanced sector composition in the near future. America’s big tech stocks have been resilient during the pandemic, with some even reaching new highs.

The Fed also remains committed to providing corporations with credit, thereby enabling them to “borrow” their way out of the pandemic. These commitments have propped up stock markets by reducing bankruptcy risk and potentially speeding up the economic recovery.

Consumer sentiment, on the other hand, has yet to show signs of recovery. Surveys released in early July may shed some light on why—63% of Americans believe it will take a year or more for the economy to fully recover, while 82% are hoping for an extension of COVID-19 relief programs.

With both sides moving in opposite directions, it’s possible the disconnect could grow even larger before it starts to shrink.

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How Total Spend by U.S. Advertisers Has Changed, Over 20 Years

This graphic visualizes the fluctuations in advertising spend in the U.S., along with its brutal decline of 13% as a result of COVID-19.

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Total Spend by U.S. Advertisers, Over 20 Years

With an advertising economy worth $239 billion in 2019, it’s safe to say that the U.S. is home to some of the biggest advertising spenders on the planet.

However, the COVID-19 pandemic has resulted in the major upheaval of advertising spend, and it is unlikely to recover for some time.

The graphic above uses data from Ad Age’s Leading National Advertisers 2020 which measures U.S. advertising spend each year, and ranks 100 national advertisers by their total spend in 2019.

Let’s take a look at the brands with the biggest budgets.

2019’s Biggest Advertising Spenders

Much of the top 10 biggest advertising spenders are in the telecommunications industry, but it is retail giant Amazon that tops the list with an advertising spend of almost $7 billion.

In fact, Amazon spent an eye-watering $21,000 per minute on advertising and promotion in 2019, making them undeniably the largest advertising spender in America.

Explore the 100 biggest advertisers in 2019 below:

RankCompanyTotal U.S. Ad Spend 2019Industry
#1Amazon$6.9BRetail
#2Comcast Corp.$6.1BEntertainment
#3AT&T$5.5BTelecommunications
#4Procter & Gamble$4.3BConsumer Goods
#5Walt Disney$3.1BEntertainment
#6Alphabet$3.1BTechnology
#7Verizon Communications$3.1BTelecommunications
#8Charter Communications$3.0BTelecommunications
#9American Express$3.0BFinancial Services
#10General Motors$3.0BAutomotive
#11JPMorgan Chase$2.8BFinancial Services
#12Walmart$2.7BRetail
#13L’Oréal$2.3BBeauty
#14T-Mobile U.S.$2.3BTelecommunications
#15Berkshire Hathaway$2.3BVarious
#16Nestlé$2.3BFood & Beverages
#17Ford$2.3BAutomotive
#18Expedia Group$2.2BTravel & Hospitality
#19Capital One Financial$2.2BFinancial Services
#20Fiat Chrysler Automobiles$2.0BAutomotive
#21Samsung$2.0BElectronics
#22Pfizer$1.9BPharmaceuticals
#23Progressive$1.8BInsurance
#24PepsiCo$1.7BFood & Beverages
#25Bank of America$1.7BFinancial Services
#26LVMH$1.6BRetail
#27Target$1.6BRetail
#28McDonald’s$1.6BFood & Beverages
#29Booking Holdings$1.6BTravel & Hospitality
#30GlaxoSmithKline$1.5BPharmaceuticals
#31Johnson & Johnson$1.5BPharmaceuticals
#32Anheuser-Busch InBev$1.5BFood & Beverages
#33Toyota$1.5BAutomotive
#34Merck & Co.$1.5BLogistics
#35Nike$1.5BRetail
#36AbbVie$1.4BPharmaceuticals
#37Honda$1.4BAutomotive
#38Unilever$1.4BConsumer Goods
#39ViacomCBS$1.4BEntertainment
#40Macy’s$1.3BRetail
#41State Farm$1.2BInsurance
#42Kohl’s$1.2BRetail
#43Home Depot$1.1BRetail
#44Wells Fargo$1.1BFinancial Services
#45Yum Brands$1.1BFood & Beverages
#46Netflix$1.1BEntertainment
#47U.S. Government$1.0BGovernment
#48Estée Lauder$994MBeauty
#49Nissan$990MAutomotive
#50Wayfair$932MRetail
#51Diageo$918MFood & Beverages
#52Sanofi$889MPharmaceuticals
#53Discover Financial Services$883MFinancial Services
#54Mars$880MFood & Beverages
#55Eli Lilly$864MPharmaceuticals
#56Kroger$854MRetail
#57Allstate$854MInsurance
#58Molson Coors$822MFood & Beverages
#59Apple$818MTechnology
#60Microsoft$816MTechnology
#61Coca-Cola$816MFood & Beverages
#62DISH Network$815MEntertainment
#63Lowe’s$811MRetail
#64Kraft Heinz$782MFood & Beverages
#65Volkswagen$780MAutomotive
#66IAC$775MEntertainment
#67Best Buy$772MRetail
#68Intuit$760MTechnology
#69Uber$756MTechnology
#70Constellation Brands$749MFood & Beverages
#71Sony$746MTechnology
#72Cox Enterprises$715MEntertainment
#73Citigroup$691MFinancial Services
#74Adidas$688MConsumer Goods
#75LendingTree$688MFinancial Services
#76Amgen$685MTechnology
#77Gilead Services$683MPharmaceuticals
#78Facebook$671MTechnology
#79Lions Gate$668MEntertainment
#80Marriott International$667MTravel & Hospitality
#81EssilorLuxottica$665MConsumer Goods
#82J.C. Penney$644MRetail
#83Liberty Mutual$640MInsurance
#84Daimler$640MAutomotive
#85Hyundai$627MAutomotive
#86Walgreens$621MRetail
#87Dell$618MTechnology
#88IBM$606MTechnology
#89Reckitt Benckiser$593MConsumer Goods
#90Keurig Dr Pepper$593MFood & Beverages
#91Restaurant Brands International$589MFood & Beverages
#92Inspire Brands$589MFood & Beverages
#93Clorox$581MConsumer Goods
#94Novartis$579MPharmaceuticals
#95eBay$562MRetail
#96Gap$562MRetail
#97Takeda$541MPharmaceuticals
#98Kia Motors$534MAutomotive
#99Coty$531MBeauty
#100Subarau$532MAutomotive

The report offers several ways of looking at this data—for example, when looking at highest spend by medium, Procter & Gamble comes out on top for traditional media spend like broadcast and cable TV.

On the digital front, Expedia Group is the biggest spender on desktop search, while Amazon tops the list for internet display ads.

The Rise and Fall of Advertising Spend

Interestingly, changes in advertising spend tend to fall closely in step with broader economic growth. In fact, for every 1% increase in U.S. GDP, there is a 4.4% rise of advertising that occurs in tandem.

The same phenomenon can be seen among the biggest advertising spenders in the country. Since 2000, spend has seen both promising growth, and drastic declines. Unsurprisingly, the Great Recession resulted in the largest drop in spend ever recorded, and now it looks as though history may be repeating itself.

Total advertising spend in the U.S. is estimated this year to see a brutal decline of almost 13% and is unlikely to return to previous levels for a number of years.

The COVID-19 Gut Punch

To say that the global COVID-19 pandemic has impacted consumer behavior would be an understatement, and perhaps the most notable change is how they now consume content.

With more people staying safe indoors, there is less need for traditional media formats such as out-of-home advertising. As a result, online media is taking its place, as an increase in spend for this format shows.

But despite marketers trying to optimize their media strategy or stripping back their budget entirely, many governments across the world are ramping up their spend on advertising to promote public health messages—or in the case of the U.S., to canvass.

The Saving Grace?

Even though advertising spend is expected to nosedive by almost 13% in 2020, this figure excludes political advertising. When taking that into account, the decline becomes a slightly more manageable 7.6%

Moreover, according to industry research firm Kantar, advertising spend for the 2020 U.S. election is estimated to reach $7 billion—the same as Amazon’s 2019 spend—making it the most expensive election of all time.

Can political advertising be the key to the advertising industry bouncing back again?

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Visualized: A Breakdown of Amazon’s Revenue Model

Here’s a look at the different parts of Amazon’s revenue model, and how much money each business segment makes.

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Visualized: A Breakdown of Amazon’s Revenue Model

Amazon has evolved into more than just an online store. While ecommerce makes up a significant portion of the company’s overall sales, its diverse revenue model generates billions through various business segments.

This visualization provides an overview of the different parts that make up Amazon, showing each business unit’s net sales from June 2019 to 2020.

A Diverse Revenue Model

With a market cap of $1.7 trillion, Amazon is currently the most valuable retailer in the world. The company is expected to account for 4.6% of total U.S. retail sales by the end of 2020—but the tech giant is more than just a one-trick pony.

A key factor in the company’s success is its diversification into other areas. Here’s a breakdown of Amazon’s revenue mix:

Business SegmentNet Sales (June 2019 - 2020)
Online stores$163 B
Third-party selling services$63 B
Amazon Web Services$40 B
Subscription services$22 B
Physical stores$17 B
Other$17 B
Total Revenue$322 billion

While Amazon is truly more than an online store, it’s worth noting that online sales account for a significant amount of the company’s overall revenue mix. Over the period of June 2019 to 2020, product sales from Amazon’s website generated $163 billion, which is more than the company’s other business units combined.

A significant day for online sales is Prime Day, which has grown into a major shopping event comparable to Black Friday and Cyber Monday. In 2020, Prime Day is projected to generate almost $10 billion in global revenue.

While ecommerce makes up a large portion of Amazon’s overall sales, there are many other segments that each generate billions in revenue to create immense value for the tech giant. For instance, enabling third-party sellers on the platform is the company’s second-largest unit in terms of net sales, racking up $63 billion over the course of a year.

This segment has shown tremendous growth over the last two decades. In 2018, it accounted for 58% of gross merchandise sales on Amazon, compared to just 3% in 2000. While third-party sellers technically outsold Amazon itself, the company still makes money through commission and shipping fees.

Amazon is Not Alone: Diversification is Common

Amazon isn’t the only major tech company to benefit from diverse revenue streams.

Other tech giants generate revenue through a range of products, services, and applications—for instance, while a healthy portion of Apple’s revenue comes from iPhone sales, the company captures 17% of revenue from a mix of services, ranging from Apple Pay to Apple Music. Microsoft is another example of this, considering it owns a wide range of hardware, cloud services, and platforms.

While there are several reasons to build a diverse business portfolio, a key benefit that comes from diversification is having a buffer against market crashes. This has proven to be particularly important in 2020, given the economic devastation caused by the global pandemic.

The Sum of its Parts

Despite varying levels of sales, each business unit brings unique value to Amazon.

For instance, while Amazon Web Services (AWS) falls behind online sales and third-party sellers in net sales, it’s one of the most profitable segments of the company. In the fourth quarter of 2019, more than half of Amazon’s operating income came from AWS.

In short, when looking at the many segments of Amazon, one thing is clear—the company is truly the sum of its parts.

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