After six years of betting on the U.S. consumer, one of Wall Street's biggest bulls is now boosting his exposure to an unloved segment of the market.
Thomas Lee, managing partner at Fundstrat Global Advisors, has opted to upgrade energy to overweight while downgrading the consumer discretionary sector, citing rising labor costs and the inverse relationship between energy and consumer-oriented stocks over the past decade and a half.
"We are downgrading consumer discretionary to neutral, on potential for margin compression in late-2016 from strengthening labor markets (reversing a six-year overweight on the sector)," wrote Lee.
"Strengthening labor markets is the bigger story from the October jobs report, particularly on wages (2.5 percent growth year-over-year is highest in six years), and is confirming anecdotes we have been hearing from companies for some time—it is harder to find qualified applicants and hence, the case for higher wages driving margin pressure," he added.
Lee joins a growing number of strategists, including BGC Financial's Senior Equity Derivatives Strategist Jared Woodard, in highlighting rising wages as a noteworthy headwind for consumer-oriented stocks.
"Consumer discretionary is 52 percent more labor-intensive than other sectors," noted Lee.
Going forward, consumer discretionary's pain will be energy's gain, according to Lee's analysis of the relative performance of the two sectors.
"[T]he last 15 years has seen a round-trip between consumer discretionary and energy," he wrote.
"With reflation, potential U.S. dollar declines, accelerating U.S. investment spending, energy looks attractive," he explained.
Lee's bullish stance on consumer discretionary over the past six years had been justified by the sector's improved return on equity, which has been 10 percentage points in excess of that of the S&P 500's for several years.
"But this has been aided by the structural improvements in the sector, coupled with containment of wage pressures, lower commodity costs," he wrote. "We think this is nearing an end."
Though beaten-down energy stocks are not the apple of most strategists' eyes amid the continued softness in oil prices, a handful have become cautiously optimistic on the sector.
Barclays believes an entrance into a new regime for the stock market in tandem with interest rate liftoff from the Federal Reserve will prove to be supportive of energy stocks, and boosted the sector to overweight. The commodity team at Barclays anticipates that Brent crude will recover to roughly $70 per barrel by the end of next year.
Bank of Montreal chief investment strategist Brian Belski also recently upgraded energy to market weight from underweight, saying that the space had reached "peak negativity."