The United States economy has achieved something most bears never expected: gross domestic product (GDP) expanded by 4.9% during the past quarter, whereas economists only expected a 4.7% jump. Even in real growth terms, considering inflation, things have improved past any point of concern.
Some analysts ask whether this growth will begin to trickle down into specific industries and consumer behavior, such as domestic travel trends. With a strong dollar, some Americans travel overseas, where budgets can significantly increase.
Regarding consumer discretionary stocks, two domestic names stand out, and analysts believe that the macro growth has a direct path to benefit them. Otherwise, a double-digit upside assigned to both would be unusual for Wall Street. Even in today’s shifting trends, you can have a chance at beating the market this quarter.
A new beginning
Starting with what has grabbed the market’s attention lately, earnings season, you will soon find out why Southwest Airlines (NYSE: LUV) and Royal Caribbean Cruises (NYSE: RCL) can bring your portfolio a feeling of summer while being smack in the middle of wintertime.
Interestingly, each stock’s performance can tell you year-to-date, especially against the Consumer Discretionary Select Sector SPDR Fund (NYSEARCA: XLY). While Royal Caribbean has outperformed the sector by as much as 57.8%, Southwest has fallen far behind.
With an underperformance of 43.8% in the sector, it looks like flying domestically is less attractive than an exotic destination in one of Royal Caribbean’s ships. This is somewhat understandable, as the rising oil prices have caused flight prices to increase, and Airbnb’s wild-west pricing model is not enticing enough to book in the U.S.
Despite the difference in performance, the underlying opportunity remains the same. With both of these stocks reaching fresh 52-week lows, the opening for a gap rebound is what you should be looking for, despite what bears may warn you about.
MarketBeat has an excellent stock screening tool you can use to filter out for low price-to-earnings stocks, where names like Southwest and Royal Caribbean will appear as tremendously attractive, ones that analysts are reasonably bullish about.
The market has voted
Contrary to widespread value investment practice, you want to look for stocks valued above a sector average multiple, such as the forward P/E, where markets attempt to place a value on the next 12 months of earnings expectations.
In the case of airline stocks, you can see how and why Southwest is a clear winning outlier.
Where the sector carries an average forward P/E of 5.5x, Southwest stock comes in with an 8.5x valuation, and there’s good reason for it. Your job is to reverse-engineer some reasons why the market may be willing to pay a premium above names like United Airlines (NASDAQ: UAL) and American Airlines (AAL).
United and American analysts expect earnings to decline by 2.5% and 5% for the next twelve months, respectively. This is way below the industry average of 12.3%, so they are trading at valuations below the industry, 3.2x and 4.1x for each.
Southwest projects a 49.4% jump in EPS for next year, above the industry average and more than enough justification for markets to pay a premium for this stock today. Analysts have placed a price target of $34.2 a share, implying a net upside of 46.2% from today’s prices.
What about Royal Caribbean? While the universe of cruise line stocks is smaller, this stock is still a perceived winner.
With an average forward P/E of 8.2x, Royal Caribbean comes out ahead with its 10.0x valuation. The driver behind the preference? Analysts are pushing for EPS to advance by as much as 35.9% in the next 12 months, ahead of the industry’s expected 15.5%.
These assumptions have allowed analysts to land on a consensus price target of $111.6 a share for this stock, calling for a tremendous 34.2% rally to meet these predictions.
Growing GDP can only mean a wave of confidence and spending sure to come. The markets have already picked their dream team lineup for domestic leisure.
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