Stock ideas in staples

While tech and AI get a lot of investor attention these days, there are other parts of the market that can offer overlooked opportunities because they may not be as in vogue. Consider consumer staples, which have offered potentially attractive yields relative to the broad market as well as relatively stable revenues and earnings historically speaking. That can be particularly important if you are concerned about inflation and other market risks.

Stocks in good spirits

Consumer staples stocks include companies that produce essential goods such as food, beverages, household products, and personal care items. You'll recognize many of these companies as familiar names in groceries, cleaning products, and basic health items that people rely on regardless of economic conditions.

Within the consumer staples sector, Ben Shuleva—manager of the Fidelity^® Select Consumer Staples Portfolio ()—thinks alcohol-related companies with strong brand equity and international exposure may be well positioned.

“I remain bullish on distillers, which are companies that make and sell hard alcohol such as vodka, gin, whiskey, and rum,” Shuleva says.

These companies faced meaningful headwinds last year, some of which have persisted into this year. These include declining consumption among younger consumers due in part to the impact of GLP-1 drugs as well as economic pressures on low- and middle-income households.

“But I think some of these cyclical headwinds will ease at some point,” Shuleva points out. “The market is pricing those businesses as if the headwinds are 100% structural, whereas I think it is more like 50% structural and 50% cyclical. If cyclical headwinds ease, I think the market narrative will shift for many of these stocks.”

Potentially attractive yields in consumer staples

Consumer staples companies have historically generated stable and recurring cash flows. Since their products are purchased frequently, revenue streams tend to be highly predictable. From an income perspective, steady cash flow can underpin dividend sustainability. Companies that consistently generate excess cash can be better positioned to return capital to shareholders through dividends and share buybacks, and consumer staples stocks are often associated with reliable and attractive dividend income.

“For instance, Coca-Cola ()—which is my fund’s largest holding—has increased its dividend for more than 60 consecutive years, through good economic times and challenged times,” Shuleva says. “The asset-light, highly profitable, highly recurring nature of their business allows for stability in free cash flow generation, which in turn allows for increasing dividends. That also proved to be true through periods of heavy inorganic investments, like the Costa acquisition and the more recent investment to consolidate Fairlife.”

An inflation buffer?

If you’ve been monitoring markets, you know that inflation has been heating up. Another potential advantage of consumer staples companies relative to some other sectors is the capacity to pass on higher costs to consumers.

“Coca-Cola is also an example of a business that operates in consolidated market structures with real barriers to entry, and thus it has the ability to consistently pass through higher costs to help keep profits stable and/or growing,” according to Shuleva. “So too is British American Tobacco (). This is true both in the US market and internationally. Keurig Dr Pepper () also plays into this theme, as they generally ride the coattails of Coca-Cola’s leadership in soft drink pricing.”

Strong brands and everyday necessity products can give these firms a degree of pricing power. In inflationary environments, this pricing power becomes particularly valuable. Companies can raise prices to offset higher input costs (such as raw materials, packaging, or transportation), preserving profit margins over time. As prices rise, revenues and earnings can keep pace, supporting both stock prices and dividend payments.

Staples for potentially less investing volatility

Another factor to consider in favor of consumer staples stocks is their defensive nature, which may help investors weather volatility and offer the ability to be resilient across economic cycles. Their steady demand and predictable earnings can make them less sensitive to macroeconomic shocks and market speculation. Consequently, consumer staples stocks generally exhibit lower volatility than the broader equity market.

Shuleva sees a lot of opportunity here for investors to consider. “Kenvue () and Kimberly Clark () are good examples of firms that have a history of exhibiting lower demand volatility. Their primary products are diapers, toilet paper, pain relief products, and allergy medication, which can all be things you need regardless of your economic situation.” For investors, this can mean lower portfolio drawdowns during downturns and potentially more consistent returns.

Consumer staples stock investing

While other parts of the market may continue to capture more headlines, you may want to keep an eye on other opportunities that can help you build an investment mix that can potentially stand the test of time. For investors seeking stability as well as relatively attractive income and value compared with other parts of the market, consumer staples might be worth a second look.