Sunday, November 10

Week 123 - S&P Food and Beverage Index Companies

Situation: Food reserves are dwindling around the world. China has food shortages, and prices there are rising. Creeping desertification isn’t helping, nor is war in sub-Saharan Africa. Crop losses due to drought now occur every year somewhere in the world. The US Department of Agriculture projects that prices for food commodities will rise 1-2%/yr faster than inflation. However, for individual commodities (like corn) prices will increase one year only to fall the next year because of overplanting. Another factor is the increase in meat production, which is driven by the tens of millions of people that emerge from poverty each year. Going forward, the prices for food commodities will have to rise even more than in the past--to drive investment in technology and other types of innovation (including conservation). Otherwise, the goal of doubling food production by 2050 (to feed a world population of 9 Billion) won’t be met.

In light of these facts, investors have overbought the stocks of most companies that supply grocery stores. There are over 100 companies in the S&P Food & Beverage Index. We have winnowed the list down to those that have good recent records for growth (see Table). These 24 companies are the ones found in the 2013 Barron’s 500 list of companies with superior recent growth in sales and cash flow. Those 24 have an average price/earnings (P/E) ratio of 22 but worthwhile bargains remain (GIS, WMT, KR, PEP). If you are starting a long-term dividend reinvestment plan (DRIP), with automatic monthly additions, you need not be concerned about overvaluation because prices will revert to a mean P/E somewhere between 15 and 20 as the food business goes through its inevitable boom and bust phases. We suggest that you focus your research on the 9 companies that have both long-term Finance Value (Column E) and short-term Finance Value, i.e., an improving (or stable) rank in the Barron’s 500 Lists (Columns G and H): WMT, GIS, SJM, COST, HSY, KR, UNFI, CPB, KO.

Note: In our Table, red highlights denote inferior performance relative to our standard benchmark, which is the Vanguard Balanced Index Fund (VBINX). The numbers in the Table are brought current as of close of business (COB) the Friday before publication of the blog. Long-term total returns/yr go back to 10/9/02 (Column C) because that was the low point for our benchmark (VBINX) in the previous market cycle, i.e., the “ recession.” And remember, the stocks you accumulate in your retirement portfolio over your working years will generate quarterly dividend checks after you retire. So pay attention to Columns J & K in the Table. Those tell you a) how much income your accumulated shares will generate each year, and b) how much that income will increase each year. 

While it is true that the future prospects for most of these companies will change over time, that is less true for the 9 companies that are Dividend Achievers (Column N), i.e., those that have increased their dividends annually for at least the past 10 yrs. And 6 of those 9 are Dividend Aristocrats that have increased their dividends annually for at least the past 25 yrs (ADM, KO, HRL, PEP, SYY, WMT). Of those 6, Archer Daniels Midland (ADM) and Hormel Foods (HRL) are more involved in food production and therefore more influenced by fluctuations in commodity prices. Also remember that none of the companies that make farm equipment, sell fertilizer, or produce seeds are in the S&P Food and Beverage Index. The technological innovations needed for doubling food production by 2050 will mainly come from those production-enabling companies, and we’ll update you on those next week.

Bottom Line: Predictions indicate a looming food crisis that will be with us for decades. Prepare your portfolio for the rising food costs you’ll face in retirement by investing in the companies that supply your grocery store. 

Risk Rating: 5

Full Disclosure: I make monthly additions to DRIPs for KO and WMT, and also have stock in HRL, GIS, and PEP.

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