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Why Travel and Leisure Stocks Sank on Monday

What happened

By now, you've heard the bad news: The yield curve just inverted again, stoking fears of an impending recession. Inflation in the U.S. hit a 41-year high in May, and investors now worry the Federal Open Market Committee may raise the benchmark federal funds interest rate by as much as 0.75 percentage points following its meeting this week as it continues its efforts to tamp down inflation.

The stock market tumbled in response, with the Dow Jones Industrial Average down 2% as of 12:30 p.m. ET, and the S&P 500 falling 2.8%.

Travel and leisure stocks are getting hit particularly hard Monday, with online travel agent Booking Holdings (NASDAQ: BKNG) shares falling 6.9%, and casino operators MGM Resorts International (NYSE: MGM) and Caesars Entertainment (NASDAQ: CZR) down 9.4% and 11.3%, respectively.

Shares of hotelier Marriott International (NASDAQ: MAR) -- while also down -- didn't fall as hard as the rest, slipping just 4.4%.

So what

What do higher interest rates, recession fears, and the yield curve have to do with travel and leisure stocks? Let's break it down step by step.

Like Yogi Berra said, "It's hard to make predictions, especially about the future." Yet an inverted yield curve -- which occurs when short-term U.S. Treasury bonds are offering higher interest rates than longer-term Treasuries -- is considered one of the best predictors of a pending recession. This is because, ordinarily, you'd expect investors to demand higher interest rates for assets that will keep their money tied up for longer periods. When that's not the case, it's seen as a strong indication that investors believe the economy is about to contract.

This is bad news for travel and leisure stocks because if the economy isn't growing, consumers will have less money to spend -- and they may be more inclined to sit on their cash if they have it, waiting for things to get "back to normal." The problem is, the longer consumers refrain from spending, the longer it may take for normal to return.

Now what

That's the bad news. Now here's the good: While recessions are likely to be bad for business at all of the companies named above, not all of them will suffer equally.

Marriott in particular was among a trio of companies called out over the weekend in a Barron's article as being both attractively priced (as a stock) and well-positioned (as a business) to outperform over the next few years. It has, for example, cut its long-term debt by $1.2 billion since before the pandemic hit (which will blunt the effect of rising interest rates on its earnings), and reduced its capital spending to a point where it's now generating more free cash flow than it was prior to the pandemic.

If a recession comes, it will probably hit Marriott along with Caesars, MGM, and Booking Holdings, of course. But Marriott's strengthened balance sheet and improved cash generation should help it to weather the storm, and once the economy cycles back out of recession, analysts see Marriott as especially well-positioned to grow alongside a revival in travel demand. From just $3.34 per share in profits earned last year, the consensus view among Wall Street analysts is that Marriott will grow its earnings by 77% this year to $5.91 per share -- then more than double them over the next four years to $12.67 per share in 2026.

Given Marriott's prospects for outperforming its peers over the long term, it's no wonder its stock is outperforming theirs today.

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Rich Smith has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Booking Holdings. The Motley Fool recommends Marriott International and recommends the following options: long January 2023 $115 calls on Marriott International. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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