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Investments to fight inflation

22 July 2022 Sector Insights, Investment Styles, How to Invest Marcus De Silva, Freelance Investment Writer

Three features Alliance Trust seeks in investments that can fight inflation

With the UK’s latest reading for inflation hitting 9.1%1, most of us are feeling the pinch in the worst cost-of-living crisis for generations. When it comes to investing in the stock markets, rampant inflation is bad news for the price of almost any asset, yet it’s true that some hold up better than others in the fight. Out of the two main classes of financial assets, company shares tend to fare better than bonds, as share prices generally respond to businesses increasing revenues to combat rising costs. Bonds, on the other hand, offer a fixed rate of interest that cannot change or respond to inflation, and as a result, they tend to perform poorly during periods when it’s higher. 

While shares seem currently the place to be, some businesses and sectors, and therefore areas of the stock market, will be able to cope with the ravages of inflation much better than others.  

1) PRICING POWER OFFERS AN ESSENTIAL ELEMENT OF CONTROL

The most discussed feature is pricing power: how freely a business can pass on its rising costs to the end consumer through higher prices without affecting demand for its goods or services. This is often seen as a signal of “quality” within a business and an investment. Alliance Trust Stock Picker Rob Rohn (Sustainable Growth Advisers) describes it as looking for companies that can price products “at good margins, regardless of what’s going on in the environment, regardless of what their [competition] might be doing.”

2) CASH ACTS AS A KEY BUFFER

Cash-generative businesses with strong balance sheets and a buffer of capital are much better placed to withstand cost increases and weather the inflationary storm. Alliance Trust Stock Picker Andy Headley (Veritas Asset Management) adds, “We try and avoid companies that require substantial investment, so in an inflationary environment they’re not required to invest huge amounts that increase all the time.”

3) LONG-TERM DRIVERS OF GROWTH KEEP INVESTMENTS POWERING AHEAD

Businesses with strong tailwinds driving long-term growth is another way to protect against inflation, particularly if these powerful trends are pushing revenue growth beyond inflation’s corrosive impact. Rohn explains, “In addition to pricing power, we look for businesses that have… long secular tailwinds to their growth: the growth may come from the opportunity in a growing end market, or the opportunity may come from the ability to take share in an existing market.”

1.www.ons.gov.uk/economy/inflationandpriceindices/bulletins/consumerpriceinflation/may2022

This information is for informational purposes only and should not be considered investment advice. Past performance is not a reliable indicator of future returns. The views expressed are the opinion of the Manager and are not intended as a forecast, a guarantee of future results, investment recommendations, or an offer to buy or sell any securities. The views expressed were current as at June 2022 and are subject to change. Past performance is not indicative of future results. A company’s fundamentals or earnings growth is no guarantee that its share price will increase. You should not assume that any investment is or will be profitable. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. TWIM is the appointed Alternative Investment Fund Manager of Alliance Trust plc. Alliance Trust plc is a listed UK investment trust and is not authorised and regulated by the Financial Conduct Authority.

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