Strategists say inflation won’t return to normal anytime soon, so seek stocks with ‘pricing power’

A pedestrian walks past a certified used car sales field in Alhambra, California, on January 12, 2022.

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Francesco Curto, head of research at asset manager DWS, said that while inflation will ease from its upcoming peak, it is unlikely to normalize in the near future, as he advises investors to look for companies with strong pricing power.

U.S. inflation at 7% in December On an annual basis, it was the highest level since 1982, according to new data released Wednesday. Meanwhile, consumer price increases in Britain, Europe and elsewhere have also hit multi-decade highs in recent months, prompting most central banks to start guiding markets to tighten monetary policy, except for the European Central Bank.

Federal Reserve Chairman Jerome Powell speaks at congressional hearing On Tuesday, raising interest rates and shrinking the balance sheet, which he called policy “normalization”, were necessary to keep inflation in check.

However, Cotto told CNBC on Wednesday that higher carbon and energy prices needed to meet the government’s emissions reduction targets would prevent the kind of “normalization” that would bring inflation back to the central bank’s target.

He believes lower prices are crucial to getting consumers back to spending, given the pandemic, even if lifting Covid-era restrictions could free up more supply.

“If all of a sudden after the pandemic, people would be very frustrated and they would start seeing higher inflation eroding their spending power. From a sustainability standpoint, that’s a clear risk,” he said.

Much of the investment story over the past year has focused on the rotation of high-value growth stocks, such as “big tech” Apple and letter), towards value stocks. The latter refers to companies that trade at a discount to financial fundamentals such as banks and energy, which have performed well in 2021 on expectations of higher interest rates.

However, the sell-off in various large tech stocks was short-lived, including last week’s, calling into question the expected inverse relationship between value and growth. Curto, like other commentators, pointed to the difference between speculative tech stocks and stocks with proven pricing power.

“Over the past 12 months, we’ve seen a significant negative correction in the prices of some speculative assets that were just driven by fast money and quantitative easing, and there’s been a lot of uncertainty about where this business is going to end up somewhere. There are doubts about the actual level of this level of profitability. Profitability,” he said, adding that investors were right to be cautious about this part of the market.

“A more nuanced approach” in 2022

The tech-heavy Nasdaq 100 suffered a sharp sell-off in the first week of the new trading year, but has since rebounded as the growth-to-value shift appears to have faded in recent sessions.

“I think the way to navigate an inflationary market is to look at companies with strong pricing power. It’s that simple,” Curto noted, noting that some value stocks lack that pricing power, as evidenced by a number of UK energy suppliers in 2021 Obsolete due to rising energy prices.

“There are tech companies that do have strong pricing power, it’s just that some of them have unreasonable valuations. It’s unreasonable to believe that these companies will continue to grow forever.”

Curto explained that Frankfurt-based DWS, which manages 880 billion euros ($1 trillion) in assets as of June 2021, looks for well-structured, profitable companies with reasonable valuations rather than trying to do sectoral or thematic Rotation. He advised investors to take a more “nuanced” approach in 2022, rather than buying stocks in line with the economic recovery.

“If you invest in this part of the market, you have no problem protecting against inflation because companies will be able to pass on increases in input prices to consumers because of their pricing power.”

This means that overall growth momentum may not necessarily “disappear,” as some key players in the basket, such as U.S. tech giants, still have strong pricing power, Curto suggested, while more speculative stocks have, however, It may be difficult to support strong sustainable cash flow.

In the value area of ​​the market, Curto noted that banks could benefit from higher inflation and interest rates, while some energy companies could benefit from the capex cuts they would need to experience as this would boost potential profitability, provided the government does so Do not increase taxes on them.

However, not everyone agrees with this view. In research reports on Wednesday, Goldman Sachs and BCA Research both reiterated their base case for continued broad growth-to-value rotation, with the latter asserting sectors and themes that typically outperform in an environment of rising interest rates.