4 stocks to defend against inflation
As inflation continues to be a bugbear for investors, Morningstar has uncovered businesses that are well positioned in the challenged outlook.
Mentioned: Endeavour Group Ltd (EDV), Bapcor Ltd (BAP), Ramsay Health Care Ltd (RHC), TPG Telecom Ltd (TPG)
There is no doubt that continued high inflation and uncertainty around interest rates have clouded the economic outlook, an assessment recently made by Morningstar director of equity research Adam Fleck.
This scenario is also playing out around the world. Indeed, it will be the opening presentation at the upcoming Morningstar Individual Investor Conference.
In his insightful article, the Chicago-based Fleck also highlighted several US firms that are well positioned in such an environment – those with pricing power through durable long-term competitive advantages, exemplary capital allocation, relatively low levels of uncertainty and minimal levels of debt. Valuation is also crucial and here Fleck would only focus on companies with a four to five star rating.
Here, we apply these attributes using the Morningstar stock screener to uncover Australian stocks that are also trading at reasonable margins of safety that could help investors play defence in a challenging market environment.
Bapcor (ASX: BAP)
Moat: Narrow; Capital Allocation: Exemplary; Fair Value: Medium; Star Rating: 4
Bapcor is one of the largest automotive spare parts and accessories businesses in Australia and New Zealand and is also on Morningstar’s Best Ideas list.
Despite the weaker near-term outlook highlighted in the company’s fiscal 2023 results, the underlying dynamics in automotive spare parts are positive, according to Morningstar analyst Angus Hewitt.
“We expect rising cost of living pressures to have minimal impact on about 90% of Bapcor's earnings, which are tied to largely nondiscretionary vehicle maintenance. Maintenance can be delayed but not ignored.”
Bapcor’s narrow moat is based on its brand intangible assets and cost advantage in its trade and retail businesses with exemplary capital is underpinned by the assessment of its balance sheet risk, investment efficacy and shareholder distribution.
Endeavour Group (ASX: EDV)
Moat: Wide; Capital Allocation: Exemplary; Fair Value:Low; Star Rating: 4
The business owns the Dan Murphy’s and BSW chain stores as well as a vast network of 12,000 poker machines. This provides Endeavour with well entrenched dividend-paying businesses in Australia giving it a wide moat. Fiscal 2023 results were broadly in line with Morningstar’s expectations, however, net profit after tax of $529 million beat our estimates by 3%, largely driven by stronger-than-expected operating profit margins in the hotels segment.
“We think liquor demand is defensive relative to discretionary retailing categories like household goods and fashion,” Morningstar analyst Johannes Faul said. “We expect demand for liquor to be underpinned by inflation and population growth.” According to Faul, consumers are still buying into quality brands. “Unlike some other retailers, Endeavour hasn’t seen its customers trading down but has rather seen a continuation of the premiumisation trend.”
TPG telecom (ASX: TPG)
Moat: Narrow; Capital Allocation: Standard; Fair Value: Medium; Star Rating: 4
TPG is also another business that made it onto Morningstar’s Best Ideas list. Shares in narrow-moat TPG Telecom screen as the most attractive under our Australian telecom coverage. Morningstar sees clear catalysts for earnings recovery on several fronts including a recover from COVID-19 effects, benefits from a more rational mobile market, and synergies from the Vodafone merger. The business is Australia's third-largest integrated telecom services company. Morningstar analyst Brian Han said that TPG Telecom's earnings recovery is gaining traction, as evidenced by the 12% rise in first-half 2023 adjusted EBITDA (earnings before interest, tax, depreciation and amortisation) to $974 million.
Ramsay Healthcare (ASX: RHC)
Moat: Narrow; Capital Allocation: Exemplary; Fair Value: Medium; Star Rating: 4
With over 460 facilities across 10 countries Ramsay Health Care is one of the largest private healthcare providers in the world. This network gives this narrow-moat business cost advantages provided by negotiating power and scale. Ramsay’s fiscal 2023 group revenue grew 12% to $15.3 billion, in line with Morningstar’s forecast, but margins were 4% softer than we expected, up 15% to $1 billion. Its results were in part impacted by investment expenses in digital and cybersecurity initiatives and challenges on the labour front.
“Despite near-term hiccups, we are positive about Ramsay’s margin recovery longer-term. Profitability should improve as case mix and volumes normalise, and the firm realises efficiencies from digital investments,” Morningstar analyst Shane Ponraj said.
“Management says labour shortages are easing across all markets, which is likely to improve capacity utilisation and decrease the need for relief staff. Ramsay is well placed to service latent demand for higher-margin nonsurgical services, and to benefit from additional capacity in its development pipeline.”