Investor appetite for food stocks has increased this year, as rampant inflation and worries about a recession have sent most equities sectors into negative territory.
Over the past year, the food products industry is up about 10% as of Sept. 29, far outperforming the broader consumer staples sector, not to mention the S&P 500, which is down more than 15% over that period.
“Food stocks are generally considered to be a safe haven,” says Rebecca Scheuneman, a senior equity analyst focusing on food and beauty stocks for Morningstar. “People are going to eat regardless of where the economy is.”
Investors have gravitated toward more defensive equities amid uncertainty surrounding inflation, supply chain bottlenecks, rising interest rates and recession risks, says Arun Sundaram, a senior equity analyst who covers companies throughout the food supply chain for CFRA Research.
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In addition to being recession hedges because people will always need to eat, food stocks are also a decent inflation hedge because they are generally able to pass at least some elevated costs on to consumers. They also often offer lower volatility, attractive dividends and share buybacks.
Because inflation is so broad based and well documented, food companies have been more successful in pushing through higher prices while suffering less of a loss of volume than usual, Scheuneman says.
In a normal environment, a 10% price increase might result in a volume reduction of 3% to 5%, she says. But because food producers across the board are increasing prices, making it harder for consumers to switch to less expensive brand names, a 12% price increase might only result in a 2% loss of volume.
Risks to Food Stocks
But it remains to be seen how long that will last. While brand name food is becoming more expensive across the board, consumers could choose store brands, also known as private label brands, instead to save money. Or they might switch to cheaper types of food.
“People will reduce higher-end food purchases when prices are high or money is tight,” says Robert Carlson, editor of the Retirement Watch newsletter. “They might eat less steak and more chicken or ground beef. But they still will buy food.”
Another key risk is that some food stocks may be overvalued after such intense investor interest.
“The main risk is that food stocks become temporarily overvalued when investors rotate from risky growth stocks to the defensive consumer staples stocks,” Carlson says. “Don’t buy these stocks after they’ve appreciated a lot and are selling above their average long-term valuations.”
For example, CFRA downgraded Kraft Heinz Co. (ticker: KHC) and General Mills Inc. (GIS) from buy to hold after they outperformed.
And at some point, the inflation scare that is sending investors into food stocks will ease.
Sundaram reckons food inflation will moderate in the coming months as commodity prices stabilize, the U.S. dollar remains strong, transportation costs ease and companies offer more promotions to ward off competition amid price-sensitive consumers.
“There is likely limited upside in the sector as a whole unless the weakness in equities is prolonged,” says Jim Worden, chief investment officer at The Wealth Consulting Group.
Food ETFs
Exchange-traded funds, or ETFs, can help mitigate those risks through diversification.
These funds own multiple companies and trade under a single ticker symbol, offering diversification between individual companies with their various fundamentals and geographic concentrations.
Holding a few of these food ETFs can increase your portfolio’s diversification across the food supply chain — from agricultural producers to commoditiesfutures to raw ingredients processors to the owners of brand-name products that fill grocery shelves.
Carlson recommends investors buy broader consumer staples funds such as the iShares U.S. Consumer Staples ETF (IYK) and Vanguard Consumer Staples ETF (VDC) that contain food-focused companies along with those involved in other types of consumer staples businesses.
Keep in mind that this diversification comes with a downside. If you own one stock that does well, you get to participate in all that upside. But if it’s inside an ETF, those gains are muted by other stocks that don’t do as well.
If you’d rather pick individual food stocks like you might pick out fruit at the grocery store, here are seven to consider:
— Hain Celestial Group Inc. (HAIN)
— Conagra Brands Inc. (CAG)
— Mondelez International Inc. (MDLZ)
— Ingredion Inc. (INGR)
— Bunge Ltd. (BG)
— Archer-Daniels-Midland Co. (ADM)
— Oatly Group AB (OTLY)
Hain Celestial Group Inc. (HAIN)
Shares of this natural food company have lost about 60% year to date as of Sept. 29, largely because of pressures facing its European business. But analysts say investors are underestimating the company.
After a new CEO took the helm in 2018, Hain has been making changes to improve its business following acquisitions where brands weren’t integrated well, Scheuneman says. Now the company has more effective marketing and on-trend product innovation, she says.
Still, the stock has weakened because of the loss of a major European contract and European customers shifting back to restaurants at the expense of shopping in grocery stores, she says.
But these headwinds are “transitory,” and Hain will get back to low single-digit sales growth in time before eventually ramping up to 7% sales growth to keep pace with its category, she says.
“We don’t think investors are appreciating the steps the company has made to improve sales growth and margins,” Sundaram says. “With expectations having meaningfully come down in recent quarters, we think HAIN could surprise to the upside, particularly as macro-related headwinds ease.”
Conagra Brands Inc. (CAG)
In a similar situation to Hain Celextial, improvements at Conagra since a new chief executive took the helm in 2015 have been “underappreciated by investors,” Scheuneman says.
Sundaram sees the company as a value play, with its shares trading at a lower forward price-earnings ratio than its peers.
The company’s margins should improve in its 2023 fiscal year as more of its pricing increases flow through and cost inflation moderates, he says.
“Cost savings should be easier to realize in (fiscal 2023) as the overall supply chain stabilizes,” he says.
Mondelez International Inc. (MDLZ)
This company, which owns the Ritz and Oreo brands, is in a sweet spot because of its exposure to the snacking megatrend among consumers.
“This category has the benefit of strong growth as consumers are generally moving away from eating meals and are snacking more, particularly as mobility improves and people go back to work after COVID,” says Sarah Henry, managing director at Logan Capital Management.
Because people tend to be loyal to their snack brands, the company is cushioned against consumers switching to off-brand competitors, she says.
Mondelez has an excellent management team that has shifted spending to where it is most impactful, exposed the company to markets around the world with lots of growth potential, delivered strong cash flows and increased dividends with healthy yields, she says.
Ingredion Inc. (INGR)
While Sundaram sees limited additional upside for packaged food stocks and food retailers, he sees more potential in agricultural products companies such as Ingredion, which supplies ingredients to food and beverage manufacturers.
The company can pass on more cost increases to its customers as it renegotiates certain long-term contracts, he says.
And it is setting itself up well to benefit from the consumer trends toward less sugar and more plant-based foods, with specialty ingredients particularly helpful to the company’s margins, he adds.
In the second quarter, the company’s sugar reduction and specialty sweetener business saw net sales grow by more than 20%.
Bunge Ltd. (BG)
As one of the biggest agribusiness companies in the world, Bunge is “poised to benefit from the growing global demand for food, feed and fuel,” Sundaram says.
Inflation helps agribusinesses like Bunge because it encourages farmers to sell their crops at higher prices, he says. That leads to greater efficiencies for the companies, such as less unplanned plant downtime and greater capacity utilization.
“Even if inflation moderates, we think there have been structural changes to the industry to support a stronger earnings baseline, fueled by trends like food security, health/wellness and sustainability,” he says.
Branching into those businesses should help make the company’s earnings less volatile, and the stock may have more upside as Bunge sells non-core businesses, strengthens its balance sheet and searches for merger and acquisition deals that would help its bottom line, he says.
Archer-Daniels-Midland Co. (ADM)
Archer-Daniels-Midland, one of the world’s largest processors of food and beverage ingredients, is considered to have some of the strongest fundamentals in its industry, says Michelle Connell, president of Portia Capital Management.
Those fundamentals include one of the highest growth rates for return on assets, a five-year earnings-per-share growth rate greater than the industry average and a lower price-cash flow ratio than its competitors, she says
The company has pleasantly surprised investors with its performance in recent quarters because of high demand for its products, productivity improvement and product innovation, she says.
Oatly Group AB (OTLY)
Shares of Oatly, the biggest oat milk company in the world, have been declining, and that may mean the company is an opportunity for bargain hunters.
“While OTLY’s top and bottom line have recently been under pressure, we believe it is mostly due to capacity constraints and COVID-19-related disruptions,” Sundaram says.
So, as the pandemic winds down, the supply chain improves and the company brings more production capacity online, it could see stronger revenue growth.
“We believe OTLY’s valuation looks compelling,” Sundaram says.
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7 Best Food Stocks to Consider originally appeared on usnews.com
