There hasn't been a more important macroeconomic topic in the past few years than that of inflation. Due to a combination of factors, like supply chain bottlenecks, monetary stimulus, and pent-up consumer demand, prices across the economy rose to decade-high levels in 2022.
However, thanks to higher interest rates, the Federal Reserve has brought inflation under control. That isn't to say we're in the clear yet. The widely followed Consumer Price Index (CPI) saw accelerating year-over-year increases in the last three months of 2024. Investors should be paying attention.
To be clear, you can't control inflation. But you can do something about it to better position your portfolios for long-term success.
Changing economic landscape
The effective federal funds rate was at 4.48% in December. That's significantly higher than the less than 0.1% it was during the nearly two-year stretch following the onset of the COVID-19 pandemic. To combat inflation, the central bank quickly increased the federal funds rate to pressure borrowing and spending activity. But December's CPI print of 2.9% is still 45% higher than the Fed's 2% target.
It's difficult to believe that inflation will come down anytime soon. President Donald Trump's notable economic policy views favor higher prices across the economy. Tax cuts can increase demand for goods, as they raise the spending power of citizens. And implementing tariffs can also increase the price of goods that are imported because these higher costs could be passed onto consumers.
And when speaking at the recent World Economic Forum, Trump said, "I'll demand that interest rates drop immediately." If put in motion, lower rates can boost inflation.
Of course, the Federal Reserve aims to be independent of the White House. But there's still a chance inflation is higher over the next few years than it's been for most of the past decade.
Image source: Getty Images.
Pricing power
For long-term investors who care about picking individual stocks for their portfolios, trying to predict macroeconomic trends is not the best use of time. But I believe every investor should at least be aware of what's happening within the broader economy.
At the end of the day, it's all about finding the right companies that can excel when prices are going up. "The single most important decision in evaluating a business is pricing power," the legendary Warren Buffett once said. These companies have not only figured out how to deliver excess value to consumers, but to capture a larger chunk of that value for themselves. There might be no better setup out there.
Businesses like this should always be on investors' radars, as the Oracle of Omaha thinks they are extremely high quality. But in an inflationary environment, this is more so the case because they are able to consistently pass higher costs to customers.
Keep these on the watch list
It's easy to find instances of businesses that have proven pricing power. They can be from many industries.
For example, on the retail side, Costco, with its incredibly popular memberships, is able to raise the annual fees every few years. There's also Chipotle in the restaurant space. Management has successfully raised menu prices to offset rising input costs.
Within the media space, both Netflix and Walt Disney continue to charge higher monthly prices for their streaming services, a trend that hasn't stopped subscriber counts from going up. Disney also exhibits pricing power within its theme parks and cruise lines.
Ferrari isn't a typical carmaker. Its leadership team prioritizes the brand's strength more than anything else, limiting the number of vehicles it makes and sells in any given year. The result is a rare ability to keep increasing car prices that its wealthy clientele is enthusiastic to pay.
In my opinion, all these stocks trade at steep valuations right now, except for Disney. Nonetheless, these businesses should be on your watch list, with the intention to study them more and wait for a pullback before buying.
Based on recent CPI data, coupled with Trump's efforts to boost the economy and stock market, there's a very real possibility that inflation throughout the rest of this decade will be higher than investors might believe. It's best to think about ways to better position your portfolio.
