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My 4 Favorite Stocks to Profit from the Rise of the Global Consumer

By: David Sterman
Posted: 8/15/2012 10:30:00 AM
Referenced Stocks: ARCO;GFA;MCD;MPEL;SVN

The United States faces myriad economic challenges, yet somehow, the U.S. stockmarket has managed to post solid gains during the past few years, as I noted roughly a week ago .

The S&P 500 has been one of the top gainers in the world during the past two years, outpacing gains seen in Europe -- and outright losses elsewhere.  In that column, I was surprised to find that the BRIC countries (Brazil, Russia, India and China) have dropped in value -- some by a considerablemargin -- during this same time frame.

Despite that underperformance, I'm still a long-termbull in places like China and Brazil -- for one very simple reason: These two countries have built durable middle classes that are just now becoming free-spending consumers. The shift to a consumer-driveneconomy is a powerful investing theme. As consumers spend, a range of businesses sprout up to serve them, hiring employees who eventually move up into the middle class, furthering the consumer-spending dynamic.

You only need to see what has happened here in the United States to know what will likely happen in these countries. My grandparents came to this country with zero understanding of the English language. Yet they scratched and saved to send my parents to college. In my generation, my sister and I were the first to get a master's degree. Looking back to 70 years ago, my grandparents could never have conceived of the quality of life that their grand kids (and great grand kids) now enjoy.

This same dynamic is likely to play out in China and Brazil. It's been a bumpy ride, but they are on the road to prosperity.

That's why I keep focusing on companies that serve consumers in those dynamic countries. In the past few months, I have recommended several  ways to invest in these consumer trends and after digesting second-quarter results, I still very much like what I see. 

Here they areā€¦

1. Seven Days Holdings (NYSE: SVN )
I profiled this Chinese lodging firm a few weeks ago . The company reported second-quarter results that are likely to be the pattern for quarters to come as well. Sales of about $99 million were just shy of the $100 million forecast. YetEBITDA of $26 million was slightly ahead of forecasts. That's because this company is slowly switching to a franchise model, which crimps sales but boostsprofit margins. In the second quarter, that transition happened a bit more quickly than analysts had expected.

Guidance for the third quarter brings more of the same.  Projected sales of $106 million will likely be slightly below consensus forecasts, but better-than-expected profit margin targets leave analysts' profit forecasts intact.  Shares of this stock are up roughly 15% since I recommended them on July 25, but I still think you may be looking at a potential double as more investors come to appreciate thecash flow potential n thisbusiness model .

2. Melco Crown (Nasdaq: MPEL )
This is also a "China play," though it is actually focused offshore, in Macau, which is shaping up to be the gambling Mecca of Asia. I've written about this stock on several occasions, most recently in late June .

Back then, I noted a clear loomingcatalyst in the form of a possible imminent approval from the government for a major new complex known as Macau Studio city. TheWall Street Journal stirred up a bit of controversy in late July when it noted that Melco had indeed gotten a green light, but omitted any reference to a casino (which would be a crucial anchor to line up funding). The company has subsequently been much more direct in noting that yes, a major casino is a big part of the plan. In reviewing second-quarter results, analysts at Citigroup noted that the company has secured the necessary work permits and the facility should open in 2015. Their $21price target represents a double from current levels.

Melco is also spreading it bets beyond the Macau market. The company has signed a preliminary agreement to develop a casino in the Philippines to tap that nation's desire to establish a major casino strip in Manila. (There are currently four casinos under development in the Manila region, though none of them are perceived to be world-class as the facilities in Macau are).

This is obviously a long-term driver, but it looks like management wants to gain a foothold now in what could be a promising market down the road. Filipinos tend to be active gamblers, so  the government not only wants to keep these spenders at home but attract foreign gamblers as well.

Brazil's short-term pain and long-term gain
I also keep an eye on Brazil. That country is suffering from a growth hangover, so a number of stocks in that country are far from their 52-week highs. My two favorite stocks are Arcos Dorados (Nasdaq: ARCO ) , a Latin American franchisee for McDonalds (NYSE: MCD ) , and Gafisa (NYSE: GFA )  a Brazilian home builder.  

3. Arcos Dorados  
Since I looked at Arcos Dorados in May , the company has gone on to report another so-so quarter on the heels of slowing consumer spending. Yet as I noted then, shares appeared oversold in the context of near-term weakness, and have indeed moved up a bit, despite so-so second-quarter results. For long-term focused investors, this is still a very appealing play as Latin American economies regain their footing.

4. Gafisa
Home builder Gafisa was initially looking like a lousy pick. Shares had already fallen sharply by the time I profiled the company in early April , but fears of a cash crunch sent this stock even lower, to just $2 by early June.  

Well, just-announced second-quarter results show those fears to be overblown, and shares are already back up above $3.  The company had been expected to lose roughly $10 million in the June quarter but instead reported a small profit. It's too soon to signal the "all clear" for this stock as the Brazilian economy remains weak. But as that country works off the excesses of its housing market in 2012, a case can be made for a much better 2013 as economists point to several growth drivers for that economy. This is a stock that has fallen roughly 80% since late 2010, and should be on your research list now, before operations tangibly improve.

Risks to Consider:   As noted earlier,emerging markets are still vulnerable to further drops if investors get spooked about the still-unresolved crisis in Greece.

Action to Take -->  It's impossible tocall the bottom in stocks like these, but each company is aiming to ride piggyback on powerful long-term demographic trends. They don't deserve a big place in your portfolio, due to their speculative nature, but provide robust potential upside if you've got a long-term time horizon.

-- David Sterman

David Sterman does not personally hold positions in any securities mentioned in this article. StreetAuthority LLC does not hold positions in any securities mentioned in this article.