Lipstick made its initial cosmetic appearance in during the era of the Ancient Egyptians, but the theory that this beauty product can be used as an economic indicator was first recognized when the United States industrial production severely declined, while sales of lipstick (along with cheap entertainment) increased between 1929 and 1933 during the Great Depression.

IN PICTURES: 8 Ways To Survive A Market Downturn

Similarly, in 2001, the chairman of Estée Lauder Companies Leonard Lauder noticed that his company sold much more lipstick after the September 11 attacks, claiming that the "lipstick effect," has played an integral role in the company's sales and thus perhaps lipstick purchases would be a good way to speculate on the economy.

What Is the Lipstick Theory?
The Lipstick theory speculates that consumers may forgo more expensive luxuries, for cheaper thrills, such as lipstick, during economic doubt. Buying cheaper items allows consumers the psychological thrill of "retail therapy," without unnecessary big item expenditure, and thus lipstick sales thrive. (Can butter production help you predict the market's next move? Find out in World's Wackiest Stock Indicators.)

Some even contend that the theory stems from the idea that people not only want to feel good when times are tough but also must present themselves in a more appealing manner in order to compete for job positions. Thus, according to the theory, small luxuries designed to make them appear better aesthetically and in the work force are good, cheap investments, especially in a recession.

Economic and Psychological Components
Richard DeKaser, the chief economist with National City Corporation, a financial holding company and bank, states that the lipstick theory is "…perfectly consistent with all kinds of economic theory."

Some economists have noted an inverse relationship between the performance of the stock market, and yes, lipstick sales. During recessions, as the theory would predict, personal beauty products tend to significantly outperform the broader market. These so-called defensive stocks are based on products that are not as heavily impacted by economic downturns as fancy cars and fur coats. (Find out how these securities can protect you from a market bust in Guard Your Portfolio With Defensive Stocks.)

Thus, it appears it is a psychological phenomenon where appearance equals confidence, and confidence leads to a possibility of increased success in the work force, generating higher income. Even if the perfect lipstick does not get you the job, you will feel less guilty spending $20 rather than $500+ on a designer purse.

It's Not Just Lipstick
In the 2001 article "Rising Lipstick Sales May Mean Pouting Economy," from The Wall Street Journal, Emily Nelson writes, "other cosmetic items don't tend to benefit from the lipstick effect."

Conversely, in 2010, the effect doesn't appear to just stop at lipstick, but rather seems to be simply a euphemism for cheap goods. For example, mascara or fashionable consumer items that do not carry the designer price tag can also experience an increase of sales. The lipstick effect does not suggest the same conclusions as general economic theory whereby hard times lead to a decrease in luxury good purchases and an increase of inferior goods, but claims that a shift to cheaper luxury goods is adopted by consumers.

Current State of the U.S. Economy
According to MarketWatch, retailers turned in surprisingly high sales as consumers were willing to spend much more for the first time in 18 months. (These new investment vehicles could be for you if you are feeling burned by the recession. Don't miss 5 Strange New Ways To Invest.)

"But the unexpected rise in jobless claims, also out Thursday, reinforces an obvious point: People without jobs cannot freely spend money," claimed the report. Some retailers see this as a future options tactic; anticipating a continuous downward spiral in the economy, they boost their production of cheap indulgences.

Retailers are strategically taking advantage of this economic theory to produce higher revenues. There have been reported increased sales in discount stores such as Dollar General (NYSE:DG), Dollar Tree (Nasdaq:DLTR) and Target (NYSE:TGT). And many of these stores have regular product sales that are designed to improve the appearances of both men and women.

Lips Looking Good
The theory to some might be Nobel Prize worthy. It seems simple yet intelligent enough; when we look good, we feel good and perform better. To others, you can dress the theory up with interesting anecdotes and history, but it does not change what it is: mere coincidence or simply false. Just like putting lipstick on a pig.

Check out last week's business highlights in Water Cooler Finance: My iPad Beats Your Toyota.)

Related Articles
  1. Charts & Patterns

    4 Ways To Predict Market Performance

    One school of thought to predicting market performance says, “Don’t fight the tape,” meaning, don’t get in the way of market trends.
  2. Investing News

    Latest Labor Numbers: Good News for the Market?

    Some economic numbers are indicating that the labor market is outperforming the stock market. Should investors be bullish?
  3. Investing News

    Is the White House too Optimistic on the Economy?

    Are the White House's economic growth projections for 2016 and 2017 realistic or too optimistic?
  4. Economics

    Can the Market Predict a Recession?

    Is a bear market an indication that a recession is on the horizon?
  5. Investing

    3 Healthy Financial Habits for 2016

    ”Winning” investors don't just set it and forget it. They consistently take steps to adapt their investment plan in the face of changing markets.
  6. Investing

    How to Ballast a Portfolio with Bonds

    If January and early February performance is any guide, there’s a new normal in financial markets today: Heightened volatility.
  7. Economics

    The Truth about Productivity

    Why has labor market productivity slowed sharply around the world in recent years? One of the greatest economic mysteries out there.
  8. Products and Investments

    The One Thing Your Portfolio Must Always Have

    Portfolio diversification is essential in any situation, but especially so as the market finally returns to fundamentals.
  9. Investing News

    U.S. Recession Without a Yield Curve Warning?

    The inverted yield curve has correctly predicted past recessions in the U.S. economy. However, that prediction model may fail in the current scenario.
  10. Term

    How Market Segments Work

    A market segment is a group of people who share similar qualities.
RELATED FAQS
  1. What is finance?

    "Finance" is a broad term that describes two related activities: the study of how money is managed and the actual process ... Read Full Answer >>
  2. What is the difference between positive and normative economics?

    Positive economics is objective and fact based, while normative economics is subjective and value based. Positive economic ... Read Full Answer >>
  3. What's the difference between microeconomics and macroeconomics?

    Microeconomics is generally the study of individuals and business decisions, macroeconomics looks at higher up country and ... Read Full Answer >>
  4. Is Israel a developed country?

    Israel is considered a developed country, although it has substantial poverty and large income gaps. The International Monetary ... Read Full Answer >>
  5. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  6. What is the utility function and how is it calculated?

    In economics, utility function is an important concept that measures preferences over a set of goods and services. Utility ... Read Full Answer >>
Hot Definitions
  1. Short Selling

    Short selling is the sale of a security that is not owned by the seller, or that the seller has borrowed. Short selling is ...
  2. Harry Potter Stock Index

    A collection of stocks from companies related to the "Harry Potter" series franchise. Created by StockPickr, this index seeks ...
  3. Liquidation Margin

    Liquidation margin refers to the value of all of the equity positions in a margin account. If an investor or trader holds ...
  4. Black Swan

    An event or occurrence that deviates beyond what is normally expected of a situation and that would be extremely difficult ...
  5. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  6. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
Trading Center