The energy crisis that has sent inflation skyrocketing around the world is worsening every week, leaving stockbrokers with a challenge to find where to put their money, Bloomberg reports.
The nightmare scenario that has unfolded this year has already taken its toll on stocks, which suffered a disastrous first half. A rally over the summer helped par the losses, but the worsening crisis, which appears nowhere near over, poses a huge obstacle to further gains.
Soaring electricity prices, along with supply threats, are affecting businesses from China to Germany to the US. It drives up costs and threatens profit margins, while taking money out of their customers’ pockets, destroying demand. And from industrial consumers who guzzle gas to retailers who rely on consumers with money to spend, the damage is proving widespread.
Germany’s heavy reliance on Russian fuel has made its corporate heavyweights particularly vulnerable. A basket of Citigroup Inc. stocks. which is sensitive to the gas shock and includes Covestro AG, Thyssenkrupp AG and Siemens AG has underperformed the broader European Stoxx 600 market this year.
As the squeeze intensifies, retail looks like another loser. In the US last week, two big names reminded investors that any concerns are valid. Nordstrom Inc. plunged 20% in just one day after cutting its full-year outlook, while Macy’s Inc. it also lowered its forecasts. In the UK, an index of retail shares has fallen about 35% so far this year.
“The energy crisis brings a huge amount of unknowns and concerns to the market,” said Clive Burstow, Barings’ London-based head of global resources. “High prices are driving inflation and pushing industrial capacity out of business, exacerbating an already tight supply chain.”
Soaring inflation has also prompted an aggressive response from the world’s major central banks, which have raised interest rates to bring the situation under control.
US Federal Reserve Chairman Jerome Powell signaled on Friday that the US central bank will continue to tighten policy and played down the idea that it will soon reverse course. Some European Central Bank officials want to discuss a 75 basis point hike in September.
“Consumers are facing higher prices for, frankly, everything,” said Ben Powell, chief strategist at investment firm BlackRock. Earnings “look a little shaky for the next few quarters,” he said.
Investor concerns were reflected in the latest flow numbers from EPFR Global data. Global equities saw outflows of $5.1 billion in the week to August 24, with US stocks posting their first gains in three weeks.
Russia’s stranglehold on gas supplies to Europe means electricity prices there have spiraled out of control. Economists at UBS Group AG say the eurozone economy has already entered recession, and Morgan Stanley last week cut its growth forecasts. In the UK, energy bills are set to almost triple this winter, adding to the squeeze in a country where inflation is already at its highest in four decades.
But the pain from higher prices is being felt everywhere and governments are considering dramatic options. Japan plans to return to nuclear power and Germany is reviving old coal-burning plants. Kosovo has begun rolling blackouts, which could spread to other countries as the need to conserve resources becomes more pressing.
Electricity distribution will affect many sectors, including chipmakers who use vast amounts of electricity to make ever-smaller semiconductors.
The damage is already affecting industrial and chemical companies. Yara International ASA and Grupa Azoty SA have cut production and lower fertilizer supply could hit agriculture, with implications for food costs. UK carmakers said soaring energy costs threatened production, while a Honda Motor Co. in China was shut down amid an order to curb energy use.
“Governments will print money to help, but they can’t print gas,” said Beata Manthey, global equities strategist at Citigroup Inc. “Aside from industrials and chemicals, I am concerned about cyclical growth stocks that continue to trade at high multiples, particularly in the consumer, technology and retail sectors.”
Avoiding pitfalls is only half the battle in any crisis, and identifying potential winners is high on the list of stockbrokers’ priorities. The most obvious are commodity companies, from oil and gas producers to miners. In Europe, the energy index has increased by 26% this year.
“We are looking for market opportunities in the energy sector,” said Gary Dugan, managing director of the Global CIO Office. “We could see very strong earnings with good dividend payouts making them particularly attractive in the US, where there is less risk of tax windfalls for the sector.”
Bank of America Private Wealth Management adheres to the so-called FAANG 2.0 strategy – fuels, aerospace and defense, agriculture, nuclear and renewables, gold and metals.
“It’s a hard assets and hard power play,” said Joseph Quinlan, chief market strategist. “That’s where we’ve been hiding, it’s worked well relative to the rest of the market.”
Governments and the corporate world have turned massively to renewable energy sources in an effort to reduce dependence on fossil fuels, boosting the sector’s prospects. But in the short term, the investment case is murkier. Building capacity, infrastructure and upgrading the grid to accommodate green energy will take time and industrial equipment, such as steel and aluminum, which is currently in short supply.
Meanwhile, for all the daily headlines highlighting rising energy prices and their impact on households, businesses, economic growth and profits, ultimately, stock-picking investors will just have to accept that they’re in a new world that is not going to disappear.
“The energy crisis, I feel like the market has kind of come to terms with it,” said Mehvish Ayub, senior strategist at State Street Global Advisors. “It was a very big shock at the start of the year and now it’s a key element of the macro picture and we’re able to focus on the fundamentals of equity earnings.”