If there is a recession within the next year or two, it is likely to look very different from global financial crisis and other slumps of the past.
For investors this means it might mean that the usual suspects of ‘recession proof’ shares are not the ones they may have relied on before – though evergreen principles such as trying not to panic, diversifying and planning for the long-term still apply.
These principles are widely agreed, as are predictions that economies on both sides of the Atlantic are likely to see a slowdown but whether or not it results in economic shrinkage is far from certain.
In the UK inflation is hovering close to 10%, which is putting the squeeze on disposable income and with regular headlines about real wages falling, households are understandably being more cautious in their spending.
However, while a ‘normal’ recession would see businesses reduce employment levels to match lower demand and maintain margins, the impact of Covid has created an unusual conundrum.
Employment levels are high and businesses are continuing to struggle to fill vacancies, a shortage of workers has resulted from the pandemic leading many people to prioritise their lifestyle and Brexit sparking an exodus of overseas workers.
Another quirk is that consumers’ savings are robust after curtailed spending during the pandemic.
Investors, investment banks and brokers are taking different approaches to how to handle investing in the current market.
Dividend hikers and oversold quality
Keeping a good weighting of your portfolio to ‘dividend aristocrats’ has been championed by Credit Suisse, which this week also highlighted growth stocks that appear oversold, including Nvidia Corporation, ASMI, Infineon, Kering and Dongyue.
Leading into a slowdown, with leading economic indicators like PMI surveys falling, the Swiss bank noted that stocks that tend to outperform it likes shares such as London Stock Exchange Group PLC (LSE:LSEG), RELX PLC (LSE:REL), Experian (LSE:EXPN) PLC, Microsoft Corporation (NASDAQ:MSFT) and Visa Inc (NYSE:V).
Broker Peel Hunt polled all its sector analysts to identify companies that are “well placed to thrive in a tougher environment”, noting that if there is a recession in the UK, “it is likely to be a very unusual one".
Head of research Charles Hall said the media focus on rising costs is “likely to remain heightened until inflation starts to moderate" but robust household bank accounts “should absorb some of the pain".
Food, drink, healthcare and defence
The list from his teams of analysts includes classic staples such as meat packer Hilton Food Group PLC (LSE:HFG), where its business model “provides a high degree of visibility and reliability”, with cost-plus contracts that pass most inflationary costs through to customers.
Irn Bru maker AG Barr PLC (LSE:BAG) and fellow soft drinks producer Britvic PLC (LSE:BVIC) are also tipped, with the latter core sales growing 4.8% in the last major UK recession while the UK soft drinks market fell 0.8%.
In life sciences, while healthcare and pharma have historically been relatively resistant to recessionary impacts, a rotation in investment styles from ‘growth’ into ‘value’ has punished many small and mid-cap players in these sector.
Abcam (AIM:ABC) PLC is one tips, gaining pricing power and expected to enjoy “a positive trajectory in operating margins regardless of the inflationary impact”.
Ergomed, another AIM company and a client, is benefiting from lots of catch-up work from the pandemic, when clinical trials were delayed, and has a “strong position in the fast-growing rare disease and oncology landscape” in the UK and US, and is a profitable growth company “a world away from the speculative future earnings stories being punished in the style rotation of 1Q22”.
Among mid-caps ConvaTec Group PLC (LSE:CTEC) is a global medical products company focussed on the management of chronic conditions so it well placed to “benefit from the tailwinds of a much less healthy society after the pandemic than before it”, while similarly, Spire Healthcare PLC is helping the NHS with the huge backlog of patients, while many others take matters into their own hands and seek out private providers such as Spire.
Hikma Pharmaceuticals PLC (LSE:HIK, OTC:HKMPF) is a bigger name, with the FTSE 100 generic drug maker having tumbled 17% in the past month and a half after twice cutting guidance, though “generic medicines should be more palatable to payers than branded ones if prices are squeezed” and the company has a strong dividend record.
A UK recession is also seen as having little or no impact on defence names Avon Protection PLC (LSE:AVON) and Chemring Group (LSE:CHG).
Analysts also pointed to the resilience during both the financial crisis and the Covid pandemic of multi-asset trusts Ruffer Investment Company, Capital Gearing Trust and Personal Assets. Offering exposure to index-linked bonds, the trusts offer “defensive performance as well as inflation protection”.
Mining, oil & gas
As mining recessions “often march to a different beat than the broader economies”, this time the sector is in better shape balance-sheet wise. “While a global recession – should one materialise – would reduce demand versus present expectations, lowering commodity prices, the mining industry is now currently facing a wave of capacity at the same time. This means that we would expect prices to rebound quickly as economies start to recover.”
In light of copper, mineral sands and diamonds looking most constrained in terms of supply, with limited supply growth under development, the top picks are Atalaya Mining (AIM:ATYM, TSX:AYM), Central Asia Metals, Kenmare Resources, Petra Diamonds and Antofagasta, with Tharisa PLC (LSE:THS, JSE:THA) tagged on as platinum group output to be in focus as automotive sales recover.
Gold stocks are seen as outperforming the market during the pullback phase, as in March 2020 and in the initial stages of a rebound, with top picks currently Pan African Resources PLC (AIM:PAF, OTCQX:PAFRY, JSE:PAN, OTCQX:PAFRF), Pure Gold Mining Inc (TSX-V:PGM, LSE:PUR, OTC:LRTNF), Wheaton Precious Metals and Yamana Gold (TSX:YRI, LSE:AUY).
In oil & gas, Harbour Energy (LSE:HBR) PLC is a “core sector stock”, Diversified Energy Company PLC (LSE:DEC, OTCQX:DECPF) has “one of the lowest-risk free cash flow profiles in the sector” and Energean (a client) provides “excellent visibility on multi-decade cash flows”.
Financials, industrials, builders, transport
The valuations of challenger banks OneSavings Bank PLC and Paragon Banking Group PLC (LSE:PAG) (a corporate client) are “overly pessimistic” with regards to the macro risks facing these businesses, with both trading close to book value.
Telecom Plus PLC (LSE:TEP) (another client) is seen as being in “a strong position to benefit from the current environment”, with the lowest cost base of energy and telecoms providers and low-cost route to market through its partner network.
Specialist motor insurer Sabre Insurance Group PLC (LSE:SBRE) is seen as being “resilient in a recessionary scenario”.
In industrials, Spirax-Sarco Engineering (LSE:SPX), Halma PLC (LSE:HLMA) and Diploma PLC (LSE:DPLM) are highlighted stocks whose models have proved resilient over a long period of time and which the team expect to outperform in that scenario.
To that list are added discoverIE Group PLC (a client), which by buying specialist electronics design and manufacturing businesses has shown that its growth and M&A strategy remain incredibly successful, “emulating both Diploma and Halma in many ways”.
With a portfolio heavily weighted to oil & gas and water & power, engineer Rotork PLC (LSE:ROR) is tapped into essential infrastructure spend on the former and a global priority on the latter.
While the building sector is unlikely to be at the top of investor lists of recession-proof stocks, analysts pointed to companies with high exposure to infrastructure and public sector spending: Keller Group PLC (LSE:KLR), Breedon Group Plc (AIM:BREE), SigmaRoc PLC (AIM:SRC), Alumasc and Van Elle.
In transport, “not a natural hold in a recession”, bus and rail performed badly during the global financial crisis due to high leverage and revenue exposure to UK rail, where passenger growth undershot the levels assumed in franchise bids, though FirstGroup and Go-Ahead have low levels of leverage, no revenue risk in UK rail franchises and passenger volume recovery for their regional bus operations.
Retail, travel & leisure, media and real estate
In retail, spending on pets and sports fashion are both seen as robust, leading to JD Sports and Pets at Home PLC being tipped, while Dunelm has also shown its recessionary chops in the past.
For support services stocks, exposure to the public sector, regulated or infrastructure-led activities is seen as healthy, with Costain Group (LSE:COST), Galliford Try Holdings PLC (LSE:GFRD) and Kier Group PLC (LSE:KIE) having “the most defensive exposures”.
In tech, companies in the B2B category are seen as “safest”, as the tech company “is selling something that a business customer needs to use regardless of how its end market is doing”, leading to Craneware PLC and Softcat (LSE:SCT) PLC.
B2B2B is apparently also a category, throwing up Welsh semiconductor wafer supplier IQE PLC (AIM:IQE), Gamma Communications (AIM:GAMA) and Focusrite.
“If consumers are going to drown their sorrows in the next recession, the hospitality industry will have to work even harder to win their custom,” said the travel & leisure analysts.
However, TUI AG (LSE:TUI), Carnival, On The Beach and Hostelworld (LSE:HSW) “all look set for excellent summer 2022 trading”, along with Whitbread PLC (LSE:WTB) and InterContinental Hotels Group PLC with consumers historically having proven “reluctant to sacrifice holidays entirely, and have been more likely to flex the amount they spend”.
In media, Next Fifteen Communications Group PLC (AIM:NFC), which mostly generates revenues outside advertising, is seen as being more robust than S4 Capital PLC (LSE:SFOR), while in publishing Future PLC (LSE:FUTR) is predicted to perform better than Reach PLC (LSE:RCH), and Rightmove PLC (LSE:RMV) to fare better than Auto Trader Group PLC (LSE:AUTO), and all to do better than broadcasters such as STV and ITV PLC (LSE:ITV).
In real estate, Primary Health Properties PLC (LSE:PHP, OTC:PHPRF) and Assura are both expected to be the most resilient, while other long-dated income streams such as those of Supermarket Income REIT PLC (LSE:SUPR, OTC:SUPIF) “should also offer resilience, with national supermarket chains as their counterparties”.
A top picks for the logistics market is LondonMetric Property PLC (LSE:LMP), which has a weighted average unexpired lease term of 11.6 years and 60% of its income subject to indexed or fixed uplift.