Inflation remains hot.
In July, US consumer prices rose 8.5% from a year earlier – down from 9.1% in June but still close to a multi-decade high.
The Fed has already raised interest rates several times this year to slow this worrying trend. It is uncertain how the economy will handle higher interest rates, and stocks are selling off as a result.
The S&P 500 is already down about 14% in 2022.
But investment mogul and Shark Tank star Kevin O’Leary still believes in holding stocks in an environment of rising interest rates.
“Even when rates go up, equities are the right place because fixed income takes a lot more damage,” he says in an interview with CNBC earlier this year.
Of course, not all actions are created equal. Mr. Wonderful believes in this type of company in times of rampant inflation.
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Companies with pricing power
Against the current backdrop, O’Leary looks for companies that have the ability to raise prices without much resistance from consumers.
“Where you want to be in stocks, especially when rates start to rise, is in companies that have pricing power,” says O’Leary. “In other words, your goods and services are necessities for people, so they are willing to accept a small increase in price, sometimes larger, as rates go up.”
But where would you find companies with pricing power?
“At the moment, health looks very good and also consumer cyclicals look very good,” suggests O’Leary.
He adds that investors should pay attention to companies that produce things people still need in times of inflation, especially “what they eat” and “what they drive”.
Focus on energy
O’Leary highlights the energy sector as a particularly prudent place to park some cash during periods of high inflation.
Fuel to power your car, heat your house or cook your food is all more expensive. As a result, energy stocks delivered extraordinary returns for several months.
Even with the recent pullback in oil prices, shares of oil majors ExxonMobil and ConocoPhillips are up about 71% and 92%, respectively, in the past year.
Tech stocks, on the other hand, are not doing so well these days. The tech-heavy Nasdaq is down about 22% year-to-date.
O’Leary adds that high P/E tech stocks are under extra selling pressure because the Fed’s stance on loose money is changing.
“As interest rates rise, P/Es fall, prices correct in equities.”
O’Leary’s Top Picks
For long-term investors, holding an ETF that tracks the S&P 500 has been a popular strategy. But O’Leary doesn’t believe in having a broad benchmark in today’s environment.
His concerns, once again, revolve around inflation and the Fed.
“Just owning the index can be very risky because lower quality balance sheets like airlines now may not perform as well as rates go up, because that means debt service also goes up,” he says.
Instead, O’Leary suggests owning a subset of the S&P 500, such as his flagship ALPS O’Shares US Quality Dividend ETF fund.
O’Leary says owning the ETF is a good strategy to fight inflation because it’s filled with companies that provide products and services that people need.
“It looks for the highest quality balance sheets, companies that are generating cash, companies with high returns on assets that make distribution”, he says.
The top five ETF holdings are Johnson & Johnson, Procter & Gamble, Microsoft, Home Depot and Apple.
These companies have been around for a long time. They survived – and thrived – during periods of high inflation.
They also provide consistently increasing dividends over time.
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