Inflation Eases, Creating Opportunities for Underperforming Stocks

October saw a welcome decrease in inflation, presenting a potential advantage for stocks that have been struggling and could benefit from a continued cooling of prices.

According to Chris Senyek, the chief investment strategist at Wolfe Research, stocks that are currently under-earning and trading significantly below their historical averages may experience a turnaround with lower inflation.

Promising Stocks on the Radar

Senyek has identified ten companies that have the potential to excel under these circumstances. These companies are currently trading at levels below their historical average and are on the path to potential improvement. The featured stocks include:

  • Home Depot (HD)
  • Carrier Global (CARR)
  • Keurig Dr Pepper (KDP)
  • Kimberly Clark (KMB)
  • Edwards Lifesciences (EW)
  • Agilent Tech (A)
  • ResMed (RMD)
  • Celsius Holdings (CELH)
  • Albermarle (ALB)
  • Campbell Soup (CPB)

Home Depot: Mixed Results with Encouraging Outlook

Home Depot, one of the featured stocks, recently exceeded earnings expectations in the third quarter. However, the continued decrease in sales, particularly for big-ticket items, has raised concerns.

Senyek stated that rising input costs, such as wages, oil prices, and other commodities, have negatively impacted margins for some companies. Thus, it is essential to examine companies’ margins relative to their historical performance to identify those that could thrive in a disinflationary environment.

Senyek summarized the situation by explaining that certain companies may be underperforming due to recent margin reductions caused by increasing input costs. However, if these costs were to decline, there is potential for margin expansion and subsequent earnings growth over the next one to two years.

Inflation on a Positive Trajectory

Data released this week indicates that inflation is moving in the right direction. In October, the producer price index (PPI) for final demand showed a significant decline of 0.5% compared to September. This drop marks the largest monthly decrease since April 2020, when the Covid-19 pandemic led to a steep economic contraction.

The encouraging PPI report follows cooler-than-expected consumer price index (CPI) data released by the Bureau of Labor Statistics. The CPI rose by 3.2% year over year in October, showing a slower pace than the rates recorded in September and August, which stood at 3.7%.

Driven by its commitment to finding value and attractive opportunities, Wolfe Research conducted a thorough screening process. The focus was on identifying companies with favorable valuations relative to their five-year historical average, as measured by the enterprise value to earnings before interest, taxes, depreciation, and amortization (EV/Ebitda) ratio.

According to Senyek, an expert at Wolfe Research, EV/Ebitda is a comprehensive metric that allows for effective comparisons across diverse companies with varying earnings and business profiles. The study also considered companies whose margins are currently lower than their five-year historical averages.

By carefully analyzing these factors, Wolfe Research aimed to identify companies that have the potential to experience increased earnings if inflationary pressures continue in a favorable direction.

In conclusion, recent data trends suggest a promising outlook for inflation. Companies with appealing valuations and the potential for improved earnings could benefit if inflationary forces continue to align favorably.

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