Profit from higher food prices: buy Sainsbury’s

At first glance, the latest trading update from J Sainsbury (LSE: SBRY) wasn’t so hot.

Like–for-like sales (excluding fuel) rose just 1.7% in the 11 weeks to 20th March. That was the slowest quarterly growth in turnover for five years, even if it turned out slightly better than analysts generally expected. The increase in same-store sales year-on-year was 3%.

So is this still a share worth holding? I reckon it is.

Sure, “the consumer environment will remain challenging in 2010”. That’s corporate-speak for ‘there won’t be too much spare cash around’. But that’s no great surprise – we keep spotlighting the stress that shoppers will suffer this year.

Yet we still have to eat. Food sales volumes will be the least likely area to be hit. Here the main problem is that food price inflation has disappeared for the moment. So both top line revenues and profit margins are being affected.

But that could be about to change. And as this chart shows, food prices could soon be heading up again…

Sterling exchange rate v UK food inflation
Source: Bloomberg 

The green line is year-on-year change in UK food price inflation, which is currently dropping at a rate of more than 2% as fruit and fish prices have fallen.

The red line is the ‘inverted’ external value of the pound. In other words, the more sterling falls against other currencies, the higher on the chart the red line goes.

Over time, the two have broadly moved in line with each other. That makes sense – more than 40% of the food consumed in Britain is imported. And a plummeting pound should eventually push up costs.

So the huge gap that’s now opened can only close in one of two ways.

Either sterling could bounce right back – but with the UK’s parlous public finances, that’s not really on the menu – or food price inflation will return, big style. And as the ‘lag’ effects of the pound’s latest plunge feed through, this is much more likely.

For Sainbury’s, it’s also very good news.