Food For Thought

Summary

• Best performing stock market sectors and industries are typically dictated by the business cycle at any point in time.
• We are no longer at the point of the business cycle that benefits technology stocks.
• Look to your Memorial Day picnic table for ideas on strong performing stocks in the current market environment.

tomazl/E+ via Getty Images

Investment opportunities spread out on the picnic table. For the last many years, investors grew accustomed to the technology sector leading the broader market. But just because tech led the market for so long does not mean that it will continue to do so in the future. Sector performance has traditionally rotated steadily over time, with past leaders becoming future laggards and past laggards becoming future leaders. This sector rotation plays out over time for good reason, and the market has now entered a phase where the long neglected packaged foods industry within the consumer staples sector has become more appetizing.

Breaking down the business cycle. Why did the technology sector lead the market for so long? In part, it was a byproduct of Fed policy and its effects on the business cycle. Many segments of the business cycle are not necessarily well suited for technology to perform well. But because the U.S. economy remained chronically stuck in a phase of sluggishly improving economic growth fostered in part by persistently accommodative monetary policy, the economy remained locked in a state that resembled an early to mid-stage expansion. This subsequently supported a stock market grinding along in a mid-stage bull market, which is the sweet spot of the business cycle and market cycle for technology stocks to perform particularly well.

Much, of course, has changed with our place in the business cycle since late 2021. A sharp uptick in inflation pressures quickly forced the Fed off of its ultra-easy monetary policy stance marked by zero interest rates and quantitative easing toward an assertively tightening approach to slow down the economy and curb escalating pricing pressures. This dramatic shift has accelerated us along the business cycle toward an economy that is now peaking and starting to roll over. And the fact that markets traditionally move many months in advance of the economic cycle may help explain why the U.S. stock market has been ailing since late last year after peaking at the start of 2022.

Consumer staples, not technology, is the sector that historically performs best during this specific phase of the business cycle. This is largely due to the fact that these more defensive companies are more likely to provide the earnings predictability and stock price growth persistence along with relatively lower stock price volatility and the potential ability to pass along higher prices to consumers that are all particularly appealing to investors at this more uncertain economic phase. Within the consumer staples sector, the packaged foods companies have historically shown the propensity to perform particularly well during these periods. After all, even though many of these companies are continuing to work through varying degrees of operational restructuring, the one thing that we all have to do more than anything else regardless of what may be taking place in the economy at any given point in time is eat.

Food for thought. Let’s take a closer look at the packaged food stocks and their performance since the U.S. stock market peak at the beginning of the year. The S&P 500 Index contains twelve companies from the packaged food industry. These are listed below:

Mondelez (MDLZ)

General Mills (GIS)

Hershey (HSY)

Kraft Heinz (KHC)

Tyson Foods (TSN)

McCormick (MKC)

Kellogg (K)

Conagra Brands (CAG)

Hormel Foods (HRL)

J. M. Smucker (SJM)

Campbell Soup (CPB)

Lamb Weston (LW)

It is worth noting that each of the companies listed above have an investment grade credit rating of BBB- or better from S&P with the exception of Conagra spin-off Lamb Weston, which is right on the cusp at BB+. Each also offers a dividend with a yield that averages 2% across the group, many of which have a long-term track record of increasing their payout each year. And all but two names – Tyson Foods and Lamb Weston – rank in the lowest quintile of stocks for price volatility in the S&P 500. In short, packaged food companies like these fit the types of stocks that appeal to investors at this stage of the business cycle.

Track record of food outperformance during similar past phases. This packaged food stock leadership at and beyond economic peaks is nothing new, as this market segment has shown the propensity for significantly positive absolute returns and relative outperformance during difficult past episodes.

For example, in the first two years after the bursting of the tech bubble in March 2000 through late spring 2002, the ten stocks on the packaged food list above that were actively trading at the time (Kraft Heinz was two separate companies in Kraft Foods and HJ Heinz, while Lamb Weston was still part of Conagra) generated an equal weighted positive return of nearly +60% at a time when the broader S&P 500 had fallen by nearly -40% at that advanced stage of the bear market at the time. The following chart shows some highlight names from the group during this 2000-2003 period.

StockCharts.com

After the onset of the financial crisis in 2007, this packaged food group was collectively lower by only -10% through the November after the Lehman Brothers collapse versus the S&P 500 that was lower by more than -40% at that stage of the bear market. This includes three stocks that were still trading higher over this same time period – General Mills, Kellogg, and Campbell Soup. The following chart has a few more highlight names from the food group during this 2007-2009 stretch.

StockCharts.com

Many of these packaged food stocks even performed well during the onset of COVID in early 2020. While the weighted average overall group traded lower over this time period, seven out of the twelve names in the packaged food industry group were trading higher in the first month after the beginning of the COVID global outbreak starting in mid-February until a couple of days before the broader market bottomed on March 23 that year. The following chart shows a number of these names that were holding onto positive territory late into the COVID correction.

StockCharts.com

So how have these stocks performed since the broader market peak at the start of 2022? Overall, these twelve stocks have generated an equal weighted average return of nearly +3% in a broader market that is lower by more than -13% over the same time period to date. The chart below shows some of the recent winners from the group.

StockCharts.com

Not too shabby in terms of relative outperformance in what has been a challenging market environment. Moreover, these packaged food stocks were collectively higher by over +10% earlier in May before disappointing sales results from the likes of Walmart (WMT) and Target (TGT) spilled over onto these stocks since the middle of the month.

Bottom line. While the broader S&P 500 Index has been struggling throughout 2022, a number of sectors and industries continue to perform well and generate positive returns. The packaged food industry within the consumer staples sector ranks among this group. And given where we are in the business cycle, investors may be well served to look beyond technology that is increasingly fading in the business cycle rearview mirror and instead focus their research attention on those stocks that are set to benefit most from where we are in the business cycle today as well as those sectors and industries that stand to benefit most from where we are headed next.

Disclosure: I/we have a beneficial long position in the shares of K either through stock ownership, options, or other derivatives. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.