XLY Consumer Discretionary Select SPDR Fund

The world’s biggest burger chain, McDonald’s Corp.’s (MCD), 1Q results were not easily digested yet again as the restaurateur continued its long streak of sales underperformance. It missed both top and bottom lines this time. The fast-food chain has been hobbling for quite some time now due to a fragile macro recovery, healthier eating habits, and heightened peer pressure.

McDonald's 1Q Earnings in Focus
 
The burger bellwether’s 1Q14 earnings of $1.21 per share slipped 4% year over year and fell short of the Zacks Consensus Estimate of $1.23 per share.  The increased cost structure along with negative currency translation hurt the company’s bottom line. Notably, foreign currency translation dragged down the earnings by $0.03 per share.

Revenues nudged up 1.0% year over year to $6.70 billion during the quarter, but failed to meet the Zacks Consensus Estimate of $6.73 billion mainly due to sluggish U.S. sales. Comps grew 0.5% thanks to higher average check offset somewhat by overall reduced guest traffic.

Among three geographic regions, comps fell only in the U.S. (down 1.7%) while Europe (up 1.4%) and the Asia/Pacific, Middle East and Africa (APMEA) (up 0.8%) managed to tread water. Notably, the U.S. segment, which was once McDonald’s most successful geographic region, started to falter since late 2013. Relatively flat industry traffic trends, cutthroat competition even in breakfast and record chills hit the region badly this time (read: Time to Bet on Consumer Discretionary ETFs?). 
 
As far as outlook goes, McDonald’s appears to be leaving no stone unturned. It seeks to strengthen its marketing messages, use fresher food options to relate to customers’ preferences, re-imagine kitchens, offer customized burger options to guests, and last but not the least, intends to make its still-loved breakfast offerings a distinct choice when compared to competitors.

Market and ETF Impact
 
Courtesy of the soft earnings announcement and a somewhat hopeful outlook, McDonald’s share prices dipped slightly (down 0.35%) in a single trading session on April 23, though it gained 0.24% in after-hours trading. In fact, some consumer funds where MCD has decent exposure such as the Consumer Discretionary Select Sector SPDR Fund (XLY) and Vanguard Consumer Discretionary ETF (VCR) also held up pretty well.

Both XLY and VCR added 0.86% and 1.09% respectively in McDonald’s key session. The duo has a Zacks ETF Rank #3 (Hold) with ‘medium risk’ outlook and could be interesting picks for investors, if McDonald’s copes with the stiff competition and manages to uphold its banner in the fast-food industry (see all the Top Ranked ETFs here).
 
XLY in Focus

XLY is by far the largest product in the consumer discretionary space with more than $5.28 billion of assets. In its 86-stock portfolio, the in-focus McDonald’s takes up the fifth spot with 4.96% allocation.

The ETF charges a meager 16 bps in fees a year and pays a dividend yield of 1.29%. The fund has lost about 3.2% in the year-to-date time frame (as of April 23, 2014) while it surged 2.67% over the past week (read: 3 Consumer Discretionary ETFs Set to Surge).

VCR in Focus
 
This is the second largest fund in the space with about $1.20 billion in AUM invested in 375 stocks. Here also, MCD takes up the fifth position with 3.7% of assets. The fund has shed 2.74% so far this year but gained 2.85% in the past week. VCR is a cheaper fund, charging only 0.14% of expense ratio while returning 0.88% in the form of yield.

Bottom Line

Consumer Discretionary space as a whole will likely shoot up going forward thanks to pent-up demand (that was corked during winter this year). Thus, risk-tolerant investors might consider buying the aforementioned-products on McDonald’s recent subdued price move.

Investor should also note that whatever be its fast-food quality, McDonald’s dividend quality is industry leading. As of April 23, its dividend yield stood at 3.25% making it an income target for many investors (read: Will 'Dogs of the Dow' ETF Continue to Shine in 2014?).

This quality has also given McDonald’s a place in the ‘Dogs of the Dow’ – an investment strategy representing the top 10 yielding Dow Jones Industrial Average (DJIA) blue chip companies bottoming out their business cycle and thus having higher dividend yields thanks to low stock prices.   

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MCDONALDS CORP (MCD): Free Stock Analysis Report
 
VIPERS-CONS DIS (VCR): ETF Research Reports
 
SPDR-CONS DISCR (XLY): ETF Research Reports
 
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