The US consumer is stronger than investors think, Bank of America says

The American consumer has surprised Wall Street throughout 2023, leading to unexpected levels of growth in the US economy and forcing economists to push out their recession targets.

Despite a "better-than-expected" narrative, that resilience isn't fully reflected in the market, Bank of America argued in a new note on Monday.

After recently eliminating its call for a recession in 2024, BofA's economics team expects consumer spending to rise 2.3% in 2023 (up from 2.1% previously) and 1.1% in 2024 (up from 0.1% previously).

This, BofA equity and quant strategist Savita Subramanian argues, means Consumer Discretionary stocks should be priced differently.

"Our economists forecast a soft landing, but investors appear positioned for a [Great Financial Crisis]-style recession," Subramanian wrote in a new note on Monday. "Active funds’ relative weight in Consumer Discretionary is at all-time lows in our data history for both long-only funds and hedge funds."

In the note, Bank of America upgraded the consumer discretionary sector (XLY) to Overweight from Underweight. The call comes as some of the sector ETF's largest holdings including TJX Companies (TJX) are set to report earnings amid a week headlined by retail.

On Tuesday, July's retail sales report showed sales increased 0.7% in July, marking a fourth-straight month of increases and well above June's increase of 0.2%.

"The mere sidestep in activity, rather than outright contraction, demonstrates an underlying resilience in spending throughout the first half of 2023," Wells Fargo's economics team wrote on Friday.

In earnings so far this quarter, Consumer Discretionary has outperformed other sectors, posting the biggest earnings beat so far this quarter, per BofA.

In a separate note released Monday, BofA equity analysts Robert Ohmes and Alexander Perry boosted their prices targets on Dick's Sporting Goods (DKS) to $180 from $170 and Academy Sports and Outdoors (ASO) to $80 from $75.

"A rebound in Consumer Discretionary valuations could support DKS and ASO, especially as Leisure Brands and Retailers generally outperform in the first year of bull markets," the analysts wrote.