Despite persistently high inflation throughout 2022 and many aggressive interest rate hikes from the Federal Reserve, the U.S. economy has managed to avoid falling into a recession for the time being.
The latest gross domestic product, or GDP, figures from the Bureau of Economic Analysis showed the U.S. economy expanded by 3.2% in the third quarter of 2022. The advanced estimate for the fourth quarter, with results to be released Feb. 23, is for 2.9% growth.
While Federal Reserve Chair Jerome Powell is trying to steer the economy toward a “soft landing” that quells inflation and avoids recession, others have different views.
“Our baseline expectations are for inflation to fall towards target over the course of the next few years at the cost of a recession,” says Roger Aliaga-Diaz, chief Americas economist and head of portfolio construction at Vanguard.
That being said, there is a possible worst-case outcome for the U.S. economy still looming — stagflation, which Aliaga-Diaz defines as: “a period of persistently above-target inflation coupled with stagnating or outright negative economic growth.”
“Stagflation is difficult to tackle from a policy perspective, as actions that counteract inflation (i.e., higher interest rates, decreasing the money supply) may exacerbate the level of unemployment and slow the economy further,” says Daniel Dusina, director of investments at Blue Chip Partners.
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Investors need to know that stagflation can cause losses when it comes to equities. “The three components of stagflation (high inflation, high unemployment, weak demand) have an impact on the revenue, profitability and valuation of businesses, which in turn affects the price an investor is willing to pay for a share,” Dusina says.
Fortunately, there are particular equity sectors that may be more resistant to stagflation. By overweighting, or “tilting,” toward stocks from these sectors, investors could potentially mitigate the impacts of stagflation on their portfolios.
Here are seven of the best stagflation stocks to buy, according to experts:
— Costco Wholesale Corp. (ticker: COST)
— NextEra Energy Inc. (NEE)
— Crown Castle Inc. (CCI)
— Pfizer Inc. (PFE)
— TJX Cos. Inc. (TJX)
— Barrick Gold Corp. (GOLD)
— Apple Inc. (AAPL)
Costco Wholesale Corp. (COST)
“Companies that may do well in stagflationary environments will likely be extremely diversified in their product lines,” says Anessa Custovic, chief investment officer at Cardinal Retirement Planning Inc. “These companies usually have strong balance sheets and steady revenue and are able to control costs better than other companies due to their size or by having their own supply of inputs,” she says.
A great example is COST, which uses a subscription model to sell groceries, health care products, hardware, appliances, electronics, furniture, jewelry, tires and even gasoline. Costco’s annual earnings rose consistently from 2012 to 2022 with strong annual revenue growth. To keep selling its famous $1.50 hot dogs for that low price, the company makes them in-house.
NextEra Energy Inc. (NEE)
A consequence of stagflation is a high unemployment rate. All else being equal, high unemployment causes consumers to tighten their budgets to stay afloat. “However, while consumers may be pulling back on discretionary spending, they don’t usually default on their utility bills,” says Custovic. Indeed, keeping the power and water on is a priority for most consumers.
Thanks to this inelastic demand, utility sector companies such as NEE tend to be more robust defensive picks. NEE in particular has a wide customer base across Florida, where the company provides electricity via non-renewable and renewable sources of energy. As a bonus, NEE also pays a dividend yield of 2.3%, which can be beneficial to investors when equity prices stagnate.
Crown Castle Inc. (CCI)
Dusina points to the outperformance of real estate during the stagflation of the 1970s as a potential safe haven. “In particular, cell towers real estate investment trusts can lean on the defensive telecommunications industry as a ‘mission critical’ clientele, while data center REITs can pass the majority of power cost increases down to their customers,” he says.
A large-cap real estate investment trust, or REIT, pick that fits the bill here is CCI, which owns, operates and leases more than 40,000 cell towers and more than 900 data centers across the U.S. In addition, the REIT has a strong fiber optic network spanning more than 80,000 miles. In recent years, CCI has benefited from the move to 5G and cloud by its tenants. Like most REITs, CCI pays an attractive dividend, and it yields 4.2%.
Pfizer Inc. (PFE)
Ryan Johnson, managing director of investments at Buckingham Advisors, says that stagflation-resistant companies possess two characteristics: pricing power, which often comes from selling essential products and services, and good generation of free cash flow, which provides safety when the cost of capital and borrowing money is high. A sector that tends to exhibit both of these characteristics is health care.
“When it comes to health care stocks, we like PFE,” says Allen Bond, managing director and portfolio manager at Jensen Investment Management. “PFE has a stable portfolio of drugs with strong sales and a viable strategy for refilling its pipeline by buying up late-stage biopharma companies, thanks to its strong free cash flow,” says Bond. The company pays a dividend yield of 3.7%.
TJX Cos. Inc. (TJX)
Consumer discretionary companies like retailers tend to suffer when consumer spending gets slashed during stagflation, but some tend to be more well equipped to handle drops in demand. In particular, discount retailers with strong pricing power tend to fare better than those without. A notable example of such a company is TJX, a global off-price retailer.
“As the largest off-price retailer in the world, TJX enjoys significant negotiating leverage with suppliers that allows them to control inventory prices based on what they can realize on final sales to customers,” Bond says. “The result is implicit and explicit pricing power that allows them to raise prices in line with cost pressures,” he says. TJX currently pays a modest dividend of 1.5%.
[READ: 8 Financial Stocks to Buy as Interest Rates Rise.]
Barrick Gold Corp. (GOLD)
“Stagflation is a rare phenomenon in U.S. economic history with the 1970s serving as the only template,” says Massud Ghaussy, senior analyst for Nasdaq IR Intelligence. “During that time, a flight to quality and safe havens manifested itself in gold, as the yellow metal registered astronomical returns despite high volatility
While investors can invest in gold directly, another way is to buy the stocks of large-cap gold miners like GOLD. Gold miner equities can provide exposure to gold prices while retaining the potential to benefit from share price appreciation and dividends. In particular, GOLD enjoys a low beta of 0.44 — a measure of sensitivity and volatility relative to the market — while paying a decent yield of 2.2%.
Apple Inc. (AAPL)
One characteristic possessed by stagflation-resistant companies is a history of consistent profitability. “Generating a consistent and growing level of earnings and free cash flow through different types of adverse economic environments can indicate that management is able to prudently allocate capital while maintaining a competitive advantage in their industry,” says Dusina.
When it comes to consistent profitability and free cash flow generation, few companies do better than AAPL, which is currently the largest constituent in the S&P 500 index. AAPL has a trailing-12-month operating margin of 29.4%, a profit margin of 24.6% and operating cash flow of $109.2 billion. As of the most recent quarter, AAPL reported more than $51 billion in total cash on its balance sheet.
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7 Best Stagflation Stocks to Buy in 2023 originally appeared on usnews.com