There are some misperceptions among investors about the consumer sector. For instance, some investors seem to think that all "consumer" stocks suffer when the business cycle slows but that is not the case.

In fact, the global consumer sector offers a great deal of diversity, comprising 17 distinct subsectors, each with their own industry drivers and performance characteristics.

The overall sector can be roughly divided between consumer staple stocks with defensive qualities and
consumer cyclical stocks which are sensitive to economic growth, meaning a blended consumer sector fund can offer investors attractive opportunities throughout the investment cycle. Investors tend to believe the whole group is sensitive to the economy.

Examples of consumer discretionary stocks include those in the auto, durables and hotel and leisure sectors. Essentially, these are areas where spending is discretionary and more likely to be cut back when economies slow. Consumer staple stocks, however, behave quite differently. Companies in the food production, beverages, personal care and tobacco sectors tend to enjoy an inelastic demand for their products which gives the stocks more defensive characteristics.

These stocks tend to perform well in bear markets as they are relatively more insulated from economic downturns. In this way, the global consumer sector offers enough diversity to build a portfolio that can perform well relative to the rest of the market under a variety of investment conditions. The distinct mix of stocks allows me to adjust the portfolio as we progress through the investment cycle, moving from a defensive position in staples to a more aggressive position in consumer cyclical when sentiment improves.

Reasons for investing

We are very much in a transition phase in economic and investment terms. As investors begin to find
some clarity on the extent of the slowdown in economic growth and the ability of reflationary measures to have an impact, they will increasingly begin to look forward to the next cyclical upswing. Stock markets will probably recover well in advance of economies and the overall consumer sector tends to perform well in these phases. In addition, the diversity present within the sector offers investors the best of both worlds in an uncertain environment.

Consumer discretionary stocks will be well exposed to an eventual economic recovery, however, consumer staples stocks, which also perform reasonably well in a reflationary environment, offer a reassuring measure of protection should the anticipated economic recovery be anything less than straightforward.

The key driver of the fund’s relative outperformance in 2008 has been the underweight position in economically sensitive, discretionary stocks and its overweight position in defensive consumer staples.

Staples have outperformed steadily over the last 12 months as expectations of economic growth have
been revised down. I invested in beneficiaries of the "trading down" effect, such as Chattem, which
makes and sells personal care products, and Burger King, the fast food chain. I have also invested in "share of wallet" winners, such as Nestle and Wal-Mart. These companies have strong franchises and the ability to continue growing their market share irrespective of more challenging economic conditions.

Positioning

Markets will continue to look forward and may have discounted much of the bad news that we are we
now working through. It is likely that we are close to an inflection point where consumer discretionary
stocks perform better going forward and some stocks have already shown positive early signs.

Since the start of the year, I have begun to gradually position the portfolio more aggressively by
increasing the fund’s exposure to consumer discretionary stocks and emerging markets staples. I am still overweight in consumer staples areas such as household and personal care products, food, beverages and tobacco. However, I have been trimming back some of the best performers in these defensive areas to buy into high quality consumer discretionary stocks where extreme valuation anomalies had emerged, and emerging market staples, which should perform well as stock markets and economies recover.

In this light, I have added positions in emerging market beverages and in retailing, where I now have an overweight position. I am still underweight in the consumer durables, automobile, and media sectors. Companies in these areas will continue to face very challenging conditions for the foreseeable future; however, I will continually review these positions as we move through the economic recovery and reflation process.