How to Navigate Stagflation

Investing

Jul 1

Written By Emmy Sobieski

And the death of the economy/markets?

As I wrote last week, the economy naturally will slow:

Inflation making things more expensive, so we buy less
Stimulus spending and pent up demand easing
Supply chain issues getting better

Betting long-term against the very resilient, diverse US economy hasn't worked out well.

Even now, in a bear market, when I ask around I hear:

Some companies are struggling, and some are doing well (retail, moving, software are some industry CEOs I polled)
Great startups are raising capital and seeing strong investor demand
Mid to large size companies are putting together recession business plans but currently are still seeing solid demand.

Economies/markets aren't dead, so what now?

A. Figure out what kind of environment we are in.

This answer is evolving. So far we see inflation and recession (recession is two quarters in a row of YoY declines, so looks like the quarter ended June 30, 2022 is the first):

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B. Inflation + Recession = Stagflation.

Last time we saw that was in the 1970s. IF that is actually the case (there are some who argue inflation will peak this fall and then taper off, just as consensus becomes that it will persist!)

Companies that do well in recessions are ones that sell things you can't live without. No, not your Pradas. Your toilet paper and toothpaste! You don't stop buying toilet paper in a downturn. But you may trade down, from double to single ply.

Recession Investing

Companies that sell what you would never stop paying for (consumer staples, utilities, cell service and cable companies).
But be careful generalizing "we all need to drive, so energy companies will do well." because people will trade down: drive less, move themselves, buy single ply.
So, focus on companies who are low cost producers. And look at their customer base, because even low cost Walmart may have a customer base that pulls back spending more than the average because gasoline is such a high percentage of their disposable income.

Lots of moving parts to recession investing!

Also, understand where we are in the cycle.

If this is a recession and FRED is right that Q2 is the first of two quarters, we are half way through and the market typically discounts 6 months in advance. Not to say the market can't go down more (it can), but be careful chasing consumer staples companies that have already run up, just to find the market starts looking for the next growth company.

Inflation investing:

Inflation is giving you less for your money today than yesterday.

Less gas, less food, less electricity. It sucks. Typical inflation investing is investing in things that go up with inflation, so you keep your buying power.

You have to make sure their suppliers’ prices aren't going up faster than their prices (margin squeeze). Does the price of pulp go up faster than the price of toilet paper? One of the easiest ways to protect yourself from this margin squeeze is to invest in the source.

So typical investments in inflationary times are land, metals, forest lands... things that have no suppliers...

Putting it all together: