Share Tips From the US Press: Two Hedges Against Inflation

published 5 July 2006

"The inflation drumbeat gets louder and louder," says Peter Lattman on Forbes.com. Dallas Federal Reserve Bank president Richard Fisher recently said that the inflation rate was "near the upper end of the Fed's tolerance zone", while consumer prices increased by 1.2% in September, taking the annual rate to 4.7%, a near 15-year high, as energy prices surged.

Higher inflation is bad news for stocks on two fronts, says Lattman: profits get pinched if companies are unable to pass on higher raw-material prices to their customers, while "penny-pinched" consumers tend to cut their discretionary spending. So it's worth considering "inflation-proofing" your portfolio by opting for stocks in sectors that benefit from inflation or firms in solid sectors that tend to be resistant to it, says Harry Domash on MSNMoney.com. Among the latter is healthcare, where many firms are "growing at a good clip". One promising area is generic drug makers. Among those highlighted by Domash is Teva Pharmaceuticals (TEVA, $34), an Israeli company that has become the biggest seller of generic pharmaceuticals in the US. As David Landis points out on Kiplinger.com, drugs worth $100bn in US sales will lose their patent protection over the next five years, allowing copy-cat drugmakers such as Teva to sell their versions. Teva is also on the verge of finalising the takeover of rival Ivax, which will boost its market share from 13% to 20%. Standard & Poor's consequently rates the shares, which are on a priceearnings to growth ratio of just 1.1, a "strong buy" and has set a 12-month target of $42, implying upside of 23% from current levels.

Energy stocks are a classic inflation hedge. Andrew Bary in Barron's says that the recent pullback in oil prices makes Canada's Suncor (SU, $51 in New York; or SU.TO, C$60 in Toronto) worth a look. It's a key player in the Canadian oil sands market, controlling a potential 11bn barrels of oil in the area. With the high oil price, this oil is now economical to exploit (it has historically been too expensive to get out of the ground). As Lloyd Bryne of Morgan Stanley notes, most oil firms are struggling to generate growth in production, but Suncor aims to double output in the next five years. He deems Suncor a "terrific long-term asset" and says that, provided oil holds at around $50 a barrel in the long term, Suncor - currently on ten times 2006 earnings - could fetch over US$80 a share.

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Value stocks in the biotech sector are about as rare as hens' teeth. But a welcome exception is LifeCell (LIFC, $18), according to Jon Markman on TheStreet.com. The firm's "miracle" product, AlloDerm, is a type of skin substitute made by peeling actual skin from cadavers and then freezing it. Its main application is in the treatment of stomach wounds, one of the most common injuries in car crashes, and its most important attribute is its ability to be revascularised, meaning that the body accepts it as natural tissue and thus begins to recover.

LifeCell's shares have fallen by a third after one of its suppliers, Biomedical Tissue Services, was accused of illegally obtaining skin tissue. Although there is no suggestion that anything is amiss medically, LifeCell recalled all of its products made from Biomedical's inventory. This accounts for just 5% of the total in inventory and will cost a maximum of $1.5m in write-downs if LifeCell is forced to throw it all out. This hiccup spells opportunity: LifeCell is now trading at just four times forecast 2006 sales of $126m - about half the valuation of its peers (many without any meaningful products). That puts it on a forward pe of 31, which looks pricey - until you spot the earnings growth "in the 50%-plus range".

With the price of fossil fuels looking unlikely to embark on a substantial downswing anytime soon, renewable energy stocks are becoming an increasingly attractive alternative. One company to consider is America's Evergreen Solar (ESLR, $8.45), says Finanz und Wirtschaft. It produces solar cells, panels and power systems. And it does it more economically than its peers. The price of a kilo of silicon, the key ingredient in solar cells, has jumped from $32 to $45 since 2003, as demand now exceeds supply by 10%. This gives Evergreen a "competitive advantage" since it has come up with a technology to make cells that uses 35% less silicon than traditional methods. What's more, it is aiming to refine its technology to cut its silicon usage by another 50%.

EverQ, the group's joint venture with Germany's Q-Cells AG, looks good: EverQ is building a plant in Germany that will give Evergreen's manufacturing capacity a substantial boost. While sales look likely almost to double to $43.4m in 2005, the group is unprofitable, but hopes to make money in 2006. Add in forecasts that the market for solar energy systems could more than treble from $11bn to $36bn by 2010, says Finanz und Wirtschaft, and Evergreen's long-term future looks bright.