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Crush Inflation With These Two Magic Words

By Mauldin Economics. Originally published at ValueWalk.

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Are you feeling the pinch?

Inflation is getting out of hand.

I buy the same items every week at the grocery store… yet my bill has shot up 50% in the last six months.

Gas prices just hit $8/gallon here in Ireland… and the cost of heating a home jumped by roughly $500 this winter.


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Today, I’ll show you the best way to crush inflation with your investments.

Hint: You want to buy companies that possess two magic words—more on that in a moment…

Rising Prices

  • Rising prices are the talk of the town.

Not too long ago, the only people discussing inflation were economists.

Now it’s part of daily conversation. Grocery stores are taking out “inflation buster” billboards. Inflation’s the lead story in every tabloid newspaper.

I was in a taxi a few days ago. The driver kept refreshing his phone to check the latest gas prices. He said, “I’m going home because I refuse to put more petrol in the tank.”

Last week, prices at the pump hit their highest level ever. Gas prices have jumped 72 cents in just the past month, on average.

And home prices are rising at their fastest pace in more than 30 years. Rents in places like Miami and Atlanta have surged 40% over the past year!

  • Investors are freaking out about inflation…

CNBC asked hundreds of chief investment officers, equity strategists, and portfolio managers what they were most worried about today.

More than half said rising inflation is their biggest concern.

Should you sell everything to take cover from inflation? Absolutely not.

There’s only one guaranteed way to lose money to inflation: Don’t invest your savings.

Let’s say you sold all your stocks at the start of the year. Congratulations, you sidestepped an 11% drop in the S&P 500.

But now what? You’re sitting on a pile of cash guaranteed to lose value month after month.

Beating Inflation

  • Here’s the most reliable way to beat inflation…

These days, owning a piece of a successful business, or owning stocks, isn’t a nice-to-have.

It’s a must. Buying the right stocks is one of the best ways to beat inflation.

You see, higher costs that inflation brings on are bad for everyday folk. But they can be good for businesses. Many businesses can pass on higher costs to customers, which can boost profits… and their stock prices.

Stocks are also the only asset class that beats inflation on a consistent and reliable basis.

Wall Street bank Goldman Sachs did a study on inflation. It found “US equities have outperformed inflation 100% of the time over any 19-year window.”

Inflation

Source: Goldman Sachs

  • But there’s a special trait you must look for when buying stocks to protect against inflation…

Superinvestor Warren Buffett said it’s “the single most important decision in evaluating a business.”

He’s talking about evaluating a company’s pricing power. These two magic words describe a business’s ability to pass rising costs on to customers without hurting sales.

As Buffett said: “If you’ve got the power to raise prices without losing business to a competitor, you’ve got a very good business. And if you have to have a prayer session before raising the price by 10%… you’ve got a terrible business.”

Makes sense, right?

Every business is dealing with rising costs today. I was chatting with my butcher the other day. He told me the price of chickens spiked 25% over the past month due to rising grain costs.

Now, he charges folks buying chicken 25% more, and he said people aren’t ordering less of it. That’s pricing power. And that’s the kind of business you want to own with inflation running hot.

Pricing Power

  • Swiss Bank UBS did a deep dive into stocks with pricing power…

It looked at the performance of US companies with strong and weak pricing power since 2010.

UBS found stocks with strong pricing power dramatically outperformed when inflation was running hot.

Inflation

Source: The Economist

It’s easy to see why this is the case.

When hit with rising costs, firms that lack pricing power have to cut costs or take a hit on profits. Those with pricing power can pass the buck on to customers and keep profits steady.

Why are some businesses able to pass costs on to customers while others aren’t?

Think about the items or services you’d keep buying even if prices doubled.

Even if my grocery bill jumped another 50%… I still have to eat.

And I bet if your kids’ daycare costs doubled, you’d find a way to pay.

Ditto for healthcare costs… filling your gas tank… and heating your home.

Some items and services are so vital we’ll hand over the money no matter what.

Take Procter & Gamble (NYSE:PG) for example. It recently hiked the price of essentials like Gillette razors… Tide laundry detergent… Crest toothpaste… and Dawn dish soap. On its latest earnings call management said, “We have not seen any material reaction from consumers.”

  • Businesses that sell necessities aren’t the only ones jacking up prices right now.

See Amazon (NASDAQ:AMZN) recently raised its Prime membership to $139/year?

It didn’t shed subscribers when it hiked prices in the past. In fact, it’s gained 75 million new Prime subscribers since the last price increase four years ago.

Warehouse club Costco (NASDAQ:COST) signaled it will likely increase membership costs this summer. Costco raises prices roughly every five years… yet its renewal rates in the US and Canada haven’t dropped below 90%.

Credit card duopoly Visa (NYSE:V) and Mastercard (NYSE:MA) will introduce their latest fee hikes for businesses next month. Visa and Mastercard’s dominance in payments is only growing, so I doubt we’ll see an exodus over these fee increases.

These businesses have buckets of pricing power. Very few people will bat an eyelid at paying $20/year more for Amazon Prime.

And what small business will start turning down credit cards next month?

  • Here’s your chance to buy stocks with pricing power for a huge discount.

Remember, companies with pricing power typically outperform when inflation is running hot.

But even stocks like Amazon, Costco, and Mastercard have gotten hammered this year.

The father of “value investing” Benjamin Graham said: “In the short run, the market is a voting machine. But in the long run, it’s a weighing machine.”

In the short run, emotional buyers and sellers push stock prices around. But sooner or later, investors put their money where it’ll be treated best. Today, that’s companies with pricing power.

Now’s your chance to scoop up shares of businesses that will thrive in the face of rising prices.

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Article By Stephen McBride, Mauldin Economics

Updated on

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