Stocks That Beat Recession and Inflation

"I would say, by any commonsense definition, we are in a recession."
-- Warren Buffett, Chairman and CEO, Berkshire Hathaway, March 3, 2008

"It may not be official, but it is increasingly obvious: America's economy has slipped into recession."
-- "The Long Hangover," The Economist, April 10, 2008

Through the first four months of the year, everyone took it for granted that the economy was, or would soon be, in a recession. Well, nearly everyone.

At the end of February, I drew Inside Value readers' attention to a CNBC interview with Sam Zell. The self-made billionaire investor stated that he didn't think the economy was in a recession -- nor would it go into a recession. He wasn't whistling against the wind, he was whistling against a typhoon.

Three short months later he's been mostly vindicated -- recession worries are now passe. The talking herds have moved on to the next fear of the moment: inflation.

The stream of "experts" who counsel investors to prepare for economic scenarios that change constantly are confusing everyone.

What do you do now?
The antidote to all of this commotion? Ignore what the experts project will happen to the economy over the next three, six, or 12 months. Instead, put your mind to owning enduring businesses that will continue to earn high returns on capital through good times and bad over the next five, 10, and 25 years.

Still concerned about the macro forecast? Some industries don't suffer as much as the overall economy during a recession because the demand for their products is pretty stable. After all, when was the last time you stopped yourself from buying a Coca-Cola (NYSE: KO  ) because you thought GDP growth was at risk?

Companies selling strongly branded food and beverages often meet that criteria, and they also come with an added perk -- they're often the companies best able to pass on price increases to their customers, so inflation doesn't scare them.

Here are some other names to consider, and I include some pharmaceutical stocks -- another solid industry during troubled economic times:

Stock

Market Cap
(in billions)

Forward
P/E

General Mills (NYSE: GIS  )

$21.1

16.5

Johnson & Johnson (NYSE: JNJ  )

$185.0

14.0

Kimberly-Clark (NYSE: KMB  )

$26.1

12.6

Kraft Foods (NYSE: KFT  )

$47.3

15.2

Merck (NYSE: MRK  )

$78.1

10.0

Schering-Plough (NYSE: SGP  )

$31.8

11.5

Source: Yahoo! Finance.

The Foolish bottom line
So do your best to tune out the noise and continue to look at the long-term picture. You never want to let macro-based predictions dictate the stocks you buy or sell, but if you are scared of a coming recession or rampant inflation, spend your time researching businesses like those above -- which are well-positioned in both the short term (despite recessionary or inflationary fears) and the long term.

Sadly, there's another key component to consider: price. The easiest way to make a good business a bad investment is to overpay.

At Inside Value, Philip Durell and his team constantly scrutinize businesses like those in the table above, ready to pounce on the opportunity to purchase them at a reasonable price. (Indeed, Coca-Cola is an official recommendation.)

If you're tired of watching weather vanes and want to position yourself to earn long-term profits, you can take a 30-day free trial to find out which stocks Philip recommends now.

Alex Dumortier, CFA, has no beneficial interest in any of the stocks mentioned in this article. Coca-Cola and Berkshire Hathaway are Motley Fool Inside Value recommendations. Johnson & Johnson, Kimberly Clark, and Kraft are Income Investor selections. Berkshire Hathaway is also a Stock Advisor choice, and The Motley Fool owns shares of Berkshire Hathaway. The Fool has a disclosure policy.


Read/Post Comments (6) | Recommend This Article (44)

Comments from our Foolish Readers

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  • Report this Comment On June 11, 2008, at 8:41 AM, TMFAleph1 wrote:

    Hi Kahuna,

    Thanks for your comment. One technical point: you might be suprised (as I was) to learn that a recession isn't technically defined as two consecutive quarters of negative GDP growth.

    The National Bureau of Economic Research (NBER), which is the arbiter in these matters, defines a recession as "a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales. A recession begins just after the economy reaches a peak of activity and ends as the economy reaches its trough."

    http://www.nber.org/cycles/recessions.html

    Alex Dumortier (XMFMarathonMan)

  • Report this Comment On June 12, 2008, at 11:22 AM, expandmultiples wrote:

    Hi Alex, I appreciate the logic used in coming up with your list, great, steady, invaluable companies for sluggish times(very Buffetish)...and I wanted to see if you agree with advice that I received a long time ago: Insurance Companies (obviously without large exotic credit swap exposures) are usually great companies for inflationary times...for a few reasons but namely because if money is becoming less valuable (inflationary), insurance companies benefit by receiving the more valuable money "today" via premiums and shelling out less valuable money "in the future" for claims (able to invest that money in x,y,z until the claim). These types of companies have been a mainstay of Buffet's Berkshire for many good reasons, but mainly because they are cash cows (and the positive reasons for owning insurance companies doesn't change just because bad egg AIG's management predicament, the insurance model is still very well suited for inflation headwinds, just avoid the bad eggs with help from guys like you)

    With that said, I particulary like China Life's (LFC) positioning because they have both:

    1. a fast growing domestic Chinese market in which they are the overwhelming market share leader, with tons of room to grow(only writing a fraction of the population at the moment), and are seeing great organic policy holder growth...I believe that the earthquake will prove to be the best "commercial" for why their products are important for loyal Chinese head of households accumulating new wealth and planning for their families

    2. LFC is also able to invest in fast growing companies in China that the ordinary American investor does not have access to

    I think that the company is very cheap here and that their P/E is low for the rate of growth that is ahead of them, well suited to absorb and exploit the Chinese inflation taking place

    Would love to hear your thoughts.

    -ExpandMultiples

  • Report this Comment On June 12, 2008, at 9:34 PM, TMFAleph1 wrote:

    Hi ExpandMultiples,

    Thanks for your comment. On whether insurance companies provide a good hedge against inflation -- I have never heard the argument you put forward before and I'm not sure it holds. However, I do believe in the insurance business model -- there is nothing like being able to offer house odds provided you understand the odds well enough to be sure that you are the house. I think this edge trumps any inflation effect over the long term. The key questions to ask in evaluating an insurance company are:

    (1.) Does management know how to price risk in order to produce an economic profit?

    (2.) Does management have the discipline to stick to rational pricing in a 'soft' market?

    (3.) Is management successful in investing its float?

    As far as China Life goes, I'm not familiar with this particular situation. Nevertheless, it may very well fit into a very interesting theme in international investing, which is to identify companies that are implementing best practices (i.e. practices that have already proved their efficacy in mature markets) to nascent markets/ industries. That is one line of inquiry that I would pursue in doing due diligence on a company like China Life. Otherwise, the old, familiar rules apply in any market:

    (1.) Does China Life display the qualities I refer to above?

    and,

    (2.) Has the company built/ is it in the process of building a "moat" around its franchise?

    I hope this is helpful.

    Alex Dumortier (XMFMarathonMan)

  • Report this Comment On June 14, 2008, at 11:52 AM, stapelbroek wrote:

    One problem in the domestic insurance industry is that, even if the management understands current risks, those risks may be retroactively changed by the courts. Policies include explicit language about what is covered and what isn't, but after the fact people sue and get court ordered coverage they never paid for. I'm not sure how big a deal this is percentage wise, but we saw a lot of it with the California fires, and the mold issue falls into this category, too, I believe.

  • Report this Comment On June 16, 2008, at 7:39 PM, TMFAleph1 wrote:

    stapelbroek,

    Thanks for your comment. I don't know what percentage of claims these situations is, either. However, my sense is that although this would constitute a headwind, it's still possible (but not easy) to make money in insurance in the U.S.

    More generally, arbitrary reversals of legally binding contracts undermine the rule of law, which is one of the fundamental underpinnings of a properly functioning capitalist economy.

    Alex Dumortier (XMFMarathonMan)

  • Report this Comment On October 13, 2008, at 3:19 PM, showme wrote:

    At least 2 people who really got it wrong;

    1. Sam Zell

    2. Alex Dumortier

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