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Murdo MacLean, I’m a client investment manager here at Walter Scott & Partners.
There’s definitely growing expectations in some quarters that this post-pandemic, fairly rapid economic recovery combined with any ongoing fiscal or monetary stimulus can certainly usher in a period of price inflation. We’re pretty much seeing that anyway in certain sectors, pockets of the economy. We saw earlier in the year, some of the commodity prices were very robust indeed. But at the same time, I think we’ve seen some moderation in that, and I think it will still require some time before we can actually see definitively whether this is the start of a systemic rise in inflation, or it’s more of a short-term phenomenon driven by this Covid-induced supply-demand imbalance. And I think that alone can continue for certainly the next six to 12 months because the global Covid recovery is not happening uniformly either. So those imbalances can still last for some time.
I think it’s also important to stress that inflation-proofing an equity portfolio is virtually impossible because inflation can take many different forms. It can emerge in certain sectors, certain countries, and can be either, for example, supply-driven or demand-driven. And these are just a couple of different types of it. So you can’t completely guarantee that a portfolio is going to be 100% inflation proof, but we certainly believe that our global and other strategies can provide a degree of protection against rising prices. In the short term certainly, there will be short-term, unexpected bursts of inflation, and that can impact sentiment around equities for sure. But over the long-term, equities as an asset class have a very good track record of providing real after inflation returns.
Inflation will also typically affect companies and sectors and countries differently. So it does not have the same impact on all businesses. That probably goes without saying, but as a bottom-up stock-picker that’s very, very important to remember. We believe strongly that companies with market-leading positions and genuine pricing power will be in a position to offset rising input costs by, in some cases, passing that onto customers. At the same time, there’s asset-light businesses, in technology area, for example, away from the traditional heavy manufacturers and other businesses like that, that will feel less of the pain of rising prices. And another very important thing that we would stress, and one of the reasons why we always use this as part of our analysis, is that strong balance sheets and profit margins that can cushion spikes in costs will certainly hold these businesses in good stead.
Looking back on the last quarters’ meetings that we’ve had, most of the companies aren’t actually seeing a great deal of inflation in their businesses, despite the headlines. There’s certainly pockets of rising input costs, particularly in the areas of metal and petroleum-based input costs and to a degree some freight, but not a lot of evidence outside of that. Many companies in fact, talk a lot, and have been talking recently to us about leveraging technology to deliver more efficiency and productivity gains, which will help them offset that. We can also see them using MIX by adjusting the packaging or premiumization within their portfolio of products, again, to offset some of that. So taking prices is relatively easy, but it’s not often the best option there.
So I think that the final reflection I would have before maybe touching on an example is that quite a few companies in our conversations in the last couple of months have been talking about the financially weaker competitors, the mom-and-pops of this world being in a far worse position to deal with any inflation, should it present itself. So inflation could actually also have a positive implication for some of them, the market-leading businesses that we own from a competitive standpoint.
Touching upon an example that is close to your heart is a business that we own in some of our portfolios called Alimentation Couche-Tard, the convenience store operator and gas station operator. So from their perspective, there’s nothing out of the ordinary in terms of inflation that they’re seeing. The mom-and-pops dominate the industry, bearing in mind that that’s a very fragmented industry, the convenience store industry across North America; very, very fragmented. So the positions of the mom-and-pops are still relatively common. They really lack the ability to offset this underlying cost inflation. They don’t have the systems in place to instigate widespread efficiency measures. It’s fairly rudimentary stuff that they’re doing. Their only option, to my other comment, is to raise prices, which can have a negative impact if you do it too aggressively, obviously. So in this situation, Couche-Tard, for example, has the ability to leverage its scale and its technology and its investments to really offset the majority of underlying cost pressure. And that really is a perfect example of why we think that degree of scale, that degree of track record, broad shoulders, strong balance sheets, cashflow generation, those are really, really valuable.