On Tuesday this week, the International Monetary Fund (IMF) warned that the world economy was entering a phase of inflation risk. The IMF says central banks must be prepared to tighten monetary policy quickly and decisively if price pressures do not ease. The Bank of England expects inflation in the UK to rise above 4% by the end of the year.
So if inflation is coming, why should I, as an investor in UK stocks and stocks, think? And if I should be concerned about how inflation could affect my portfolio, can I do anything to reduce the loss?
Why should investors be worried about inflation?
Inflation in general and more specifically affects stock prices.
Bank of England Monetary Policy Committee (FPC) Concerned That:
“Asset valuations can quickly improve if, for example, market participants re-evaluate the likelihood of growth, inflation or interest rates.
What the FPC is getting is that low interest rates, strong growth and moderate but transient inflation are recovering from the global market Covid-1 pandemic epidemic, keeping stock markets strong. But, if inflation continues and gets out of hand, it may have to raise interest rates to deal with it. Rising rates will put a brake on economic growth. The net effect is usually a stock market valuation low, or more precisely, a stock market crash. However, a stock market crash will not affect all stocks equally.
FTSE 100 stock
Companies with low or negative earnings, with high expected revenue growth and whose best years are much longer in the future, may be most affected by stock market crashes due to rising rates, inflation and slow growth.
Suppose growth and small-cap stocks hit the most in an inflationary environment. In that case, it makes sense to conclude that large-cap stocks should do better with established business. The FTSE 100, And probably its upper edge FTSE 250, Where I want to find this kind of stock.
Can I further narrow the search outside of large-cap mature stocks to minimize the impact of inflation on the value of my portfolio? I think I can. So far, I have focused on the systemic effects of policy responses – increasing rates and reducing monetary stimulus – more than expected inflation. But what about the effects of inflation?
What is so wrong with inflation? Is raising prices not suitable for business? It seems ideal to sell things at high prices. But, consider what happens if the price of the materials used to make the item continues to rise. What if wage inflation makes it more expensive to produce goods and services?
If a business faces these cost pressures but does not increase its selling price, total and operating margins will shrink. If a company can raise its price to its customers, it can maintain its margins. But what if customers don’t pay the inflated price?
Criteria for inflation-broken stocks
What I am looking for is large cap stocks with the required price capability. I am looking for big, quality business with good track record and following features:
- Provides unique, non-homogeneous, non-discriminatory products and services.
- Provides necessary and frequently used products and services.
- Content and services account for a small percentage of overall customer spending.
- Ideally sells to other businesses instead of consumers.
- Digital delivery is a bonus but not essential.
There are problems in the labor market at the moment. However, there is a shortage of workers in the transport and storage sectors. I want to avoid this sector, because the pressure of wage costs will be the most here.
Shares with UK stock and pricing power
Relax (LSE: REL) and Halma (LSE: HLMA) seems to fit my criteria. They are both large-cap stocks on the FTSE 100 index. Both have made positive earnings and have paid dividends for at least the last five years. It’s a tough five-year track record.
Relx is a provider of information-based analysis and decision tools for professional and business clients. The company also publishes journals, databases and reference sources for scientific and medical researchers. These are services that companies can’t really afford and are provided digitally, often on a subscription basis.
Halma manufactures safety products and services for companies in the industrial and healthcare sectors. Fire detection and control systems, for example, are things that businesses cannot easily shut down: health and safety regulations look at it.
No company sells directly to consumers or at least keeps it to a minimum. Both sell mission-critical products and services to businesses and can receive a relatively small percentage of their customer’s total spend.
If inflation starts to bite
Naturally, if inflation is a concern and Relax and Halma could lose potential inflation, other investors may already be in it. Relax is trading at a price-to-earnings ratio of 22.5, and Halma shares are 42.8 times higher than their 12-month earnings. The FTSE 100 has an average P / E ratio of 15.8, so both shares can be considered valuable, but Halma in particular is so.
Relax has a significant event business that was closed during the epidemic. As a result of the closure, the revenue of Relax was reduced in 2020. Event business is still not back in pace and cannot fully recover, as it depends on a good deal of international travel.
Halma is a producer. If the ongoing disruption in the global supply chain continues, the source of its components will be needed and its activities may be disrupted. Halma is also known to grow through bolt-on acquisitions. Although its balance sheet is tough, deals usually require financing. If inflation rates continue to rise, Halmer’s contracts will likely be more costly and hinder its growth.
Even in the face of this risk, I believe that both Halma and Relax are stocks that are likely to surpass the FTSE 100 if inflation starts to bite. I will keep both on my watch list.
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