Interesting article - food for thought about other possible plays
INFLATION IS BACK IN PLAY, WHICH CAN MAKE WINNERS OUT OF
CERTAIN STOCKS. Yes, you read that right. A little bit of
inflation can be good for manufacturers who are able to
raise prices (finally!) for their goods and services.
Making the Case:
After spending much of the 1990s trending downward, the
Consumer Price Index spiked higher this spring, rattling both
the stock and bond markets. Indeed, we are starting to see
subtle signs that certain manufacturers and consumer goods
and service companies are able to raise prices. Cable service
inflation, for example, is running at an annual 4.4% rate. The
Big Red Machine--Coca-Cola--increased its prices for the
first time in almost five years, and Starbucks just hit its
customers with a jolt: the price of a cup o' joe increased
10 cents. Paper manufacturers are also having good success
raising prices, as are chemical producers. Makers of
polyethylene, used in packaging materials, are currently
working on pushing through their third price hike of the year.
How to Play It:
Granted, too much inflation is never a good thing. When
inflation gets out of control it causes bond yields to rise,
economic growth to sputter, and stock prices to slide. But if
inflation can rise moderately--not exceeding 3% or so--the
uptick in prices can be a big opportunity for investors
who identify firms that are able to increase earnings by
increasing the price of their goods or services. A smart
place to hunt for inflation plays is amid value stocks in
industries with high-fixed costs such as steel, chemicals or
paper. These firms get substantial bottom-line boosts from
price hikes because their production costs tend not to
increase as sharply as inflation. Another option: sectors
such as tobacco, or brand names like Coke, where demand
doesn't fall when prices rise.
Prime Suspects:
Lyondell Chemical (LYO): This company participates in a
wide range of price-sensitive chemical businesses; when
Lyondell can increase its prices, its earnings will also get a
boost. Inflation in prices for their crude products should help
the firm's earnings advance 16% this year. Combine the
strong pricing environment with some strategic cost cutting
and a reduction in interest expenses due to refinanced debt,
and I expect next year's earnings to advance at a very strong
106% to $1.61 per share. That's a lot of earnings growth
for a company that trades at a price/earnings multiple of
12.5 based on my 2000 earnings estimate. That's still well
below the average 15 P/E LYO traded at from 1994-98. My
12-month target price is $25, a sharp 31% gain from current
levels.
Sonoco Products (SON): Sonoco is a well-managed
company in the highly competitive packaging industry. For
seven years in a row, the company has delivered record
operating results. Growth in the past two years has been
held back by pricing pressures in packaging, but
management has noted that prices have recently firmed.
First-quarter results for the company were flat, but I look for
earnings to pick up sharply in the second half, and profits
overall are likely to be up 10% on the year. Next year, growth
is expected to improve further, and my earnings-per-share
estimate is $2.20, an estimated increase of almost 28%.
SON shares have been as high as $40, but recently have
been mired in the mid-$20s. The current P/E ratio on the
stock is a low 16 times. I'm looking for the stock price to rise
40% within 12 months, to $35 a share.
Coca-Cola Corp. (KO): Coca-Cola volume growth is below
recent trend lines, primarily due to weakness in Asian
economies. But when volume growth picks up--and I think it
soon will--profits will receive an additional boost from two
behind-the-scenes price hikes that Coke management
recently initiated. First of all, it removed incentive cash
payments to bottlers, thereby conserving that money in
corporate coffers. Second, it raised the price of syrup, which
of course sweetens the company's cash intake. I expect
Coke's earnings to be flat this year at $1.44, but next year Big
Red should be back on track for mid-teens growth. That will
put the fizz back in the stock price; I think KO can climb
back to its all-time-high of $85 per share in 2000, a
thirst-quenching 24% increase. |
