Estee Lauder (NYSE: EL) stock is down some 30% since its highs of the first few days of the New Year. This is a slightly puzzling move in the stock price given that we’ve all those worries over inflation – even that proof that inflation is turning out to be rather more than just transitory.
The macroeconomic background here is that sure, opening up after lockdown has created some bottlenecks in the global economic system. We’ve also got a war on, with both food and fuel prices jumping. So, yes, there’s inflation. But not all of it seems to be due to that – used cars is about computer chip shortages for new ones, but that’s not the only driver of inflation out there.
It’s also true that money printer go brr is driving some of this inflation. The money equation (MV = PQ) is not just some vestige of Friedmanite thought; it’s a definition. It’s now becoming commonplace to think that the second round of stimulus – at least – was too much.
OK, but what does that mean for stocks? Well, what this means is that we’ve all got to travel back to Poppa’s (or even Granpop’s) investing strategies of the 1970s, the last time we faced significant inflation and strongly rising interest rates.
One thing that both inflation and interest payments do for us is insist that more money now is worth more than dreams of vast profits at some time in the future. It doesn’t mean that growth companies are worth nothing, just that they’re worth less relative to mature and profitable companies now.
The other thing to look for is pricing power. The entire game at a company like Estee Lauder is pricing power – they charge a premium for a brand, the same stuff that’s in the Walmart generic bottle. They have at least some pricing power that is at EL. It’s also possible to point out that inflation largely is changes in fast-moving consumer goods. Therefore we expect FMCG companies to be able to keep up with inflation rather better than many other business sectors.
The old way of describing these mature, profitable, FMCG, stocks was, as with utilities, “defensive” stocks. They weren’t going to give us ten-bagger stock price rises but they would – or could – protect us against the erosion of our capital from inflation.
This is how 401(k)s – even though they weren’t so much of a thing back then – were invested to deal with the 1970s. So, to the extent that we expect that high nominal interest rate, high inflation, environment to return, they might be useful stocks to think about now.
There are also a number of things against Estee Lauder as such a defensive stock, of course. The yield at 1% isn’t all that attractive. And we’ve also got to explain why the stock – given that following wind from all of that theory above – is down 30% so far this year. But maybe that is just giving us a cheap entry point into it?
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Tim Worstall is a freelance writer specialising in economics and the financial markets.