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- Employee pay is gradually increasing after a decade of minimal gains, and Goldman Sachs says the growth is creating risks in the market.
- Analyst Ben Snider has formulated a strategy to help investors take advantage of these potential dislocations.
- He says investors should look for companies that don’t spend as much on labor because their profits are less likely to get squeezed as pay continues to rise.
Goldman Sachs says investors need to find a hiding spot as employee wages rise and company profits get thinner.
After years of sluggishness, pay for workers is growing at the fastest pace since 2008. That’s a positive for the US economy and markets in many ways, but it can also make companies less profitable. In turn, that makes their stocks less appealing. After all, profit growth is the foremost driver of share gains.
Analyst Ben Snider says wage growth will continue to climb as the unemployment rate sinks even further over the coming months, and adds that the Federal Reserve’s new easygoing stance means it won’t get in the way of those increases.
“Accelerating wage inflation adds to the list of margin headwinds including slowing revenue growth and tariffs," he said in a recent client note. "As wages rise, companies will be forced either to accept lower profitability or to attempt passing through the costs via higher prices."
But Goldman isn’t content to sit by idly in the meantime. It’s long maintained a list of companies that it sees as the least vulnerable to rising wages, and says those stocks are set to beat the rest of the market as labor costs continue to accelerate.
For a trader looking to avoid the pressure of rising wages, buying the stocks on Goldman’s list is a sound strategy for staying afloat. And it already has a proven track record.
Snider says the low-labor-cost group outperformed the S&P 500 by 20% from early 2016 to 2018 as inflation gradually increased, but it struggled in late 2018 as investors feared economic growth was fading. Weak growth would mean less chance of wage gains, eliminating the advantage for these stocks.
But now that the Fed has shifted into a more dovish position, Snider says the cohort of stocks will start outperforming once again.
For context, 10 of the 50 companies in the low-labor-cost group are in the technology sector, while tech combined with financials, health care, and consumer discretionary makes up the majority of the group. According to Snider’s analysis, this group of companies spends half as much on labor relative to revenue as the broader S&P 500.
Even among this group, there are signs that wage gains are getting stronger. When Goldman published a similar list a year ago, it identified 14 companies that paid 0% or 1% of their revenue in labor costs. Today the firm says there are only two such companies.
Here is a list of the six companies on Goldman’s list whose implied labor cost as a percentage of revenue is 3% or lower:
- Host Hotels (HST) — Implied labor as % of revenue: 1%
- Marathon Petroleum (MPC) — 1%
- Cabot Oil & Gas (COG) — 2%
- Oneok (OKE) — 2%
- Under Armour (UAA) — 3%
- Archer-Daniels-Midland (ADM) — 3%
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See Also:
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- The Fed may have sparked the latest stock rally, but one expert says it’s actually planting the seeds for the next market crash
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Source: Business Insider