Energy Costs Drain Joe Six-Pack

Excerpted from the Alger Market Commentary in a Forbes article:

The fear is that higher energy prices will cut into consumer spending. Higher prices do not hurt companies much because energy costs tend to be a minimal portion of the cost of goods sold (about 2% of overall revenues according to Empirical Research). So the question is: How much do high energy prices impact consumer spending?

Well,

Overall, energy prices will account for about 6% of consumer spending by the end of 2005, which is higher than last year or at any point in the last decade, but is still almost 50% less than the peak percentage in the early 1980s. And consumer spending is slowing slightly, from a 4% growth rate in 2004 to an estimated 3.5% in 2005.

That's in the aggregate. When broken down a little further, there's some bad news:

Consumers in the lowest quintile, who are at or below the poverty line, have little disposable income and will be squeezed.

But not to worry:

Their spending, however, does not drive U.S. economic growth.

Slightly scarier:

The two middle segments will feel the pinch of higher energy prices more because of their relatively high levels of home and automobile ownership.

But praise be to the upper brackets!

[...] the upper two quintiles will be mostly unaffected because their disposable income is quite high relative to the increase in energy costs we are now experiencing. In pure-dollar terms, the spending of the upper two-fifths of consumers matters much more than the combined spending of the other three-fifths. It's the same 80:20 principle--the upper end contributes a disproportionate share.

So heave a sigh of relief, go back to whatever you were doing, and don't worry about a thing:

At the middle and higher-end, the bite of higher energy prices has not mattered much, and we do not believe it will. For these consumers, a significant part of their spending will be driven as much by desire as need. We are watching carefully how this group spends ("Do I need that new vacation house/new pair of running shoes/dress/car?"), because that will say something about which companies will benefit and which will be hurt. While the spending patterns of the upper income brackets may shift, we are not particularly worried that their spending will cease or even slow.

Year-to-date, an 8% drop in consumer discretionary stocks (the worst performing group in the S&P 500) is more than offset by the 37% rise in energy stocks (the top group in the S&P). It's comforting to know that something is coming out ahead.

Dollar stores, however, are gonna take a dive. Place your "sell" orders now, kids!