Investing in These Consumer Goods Stocks Offers a Secure Refuge

In tough times, American investors often turn to everyday consumer goods as a way to stabilize their portfolios. This strategy worked to some extent in 2022, but some types of goods turned out to offer far better protection than others.

Demand for consumer staples like groceries and cleaning supplies is usually more resilient than demand for more discretionary items like clothes or electronics. This was largely true when inflation hit consumer budgets in 2022. The S&P 500 consumer staples subindex only declined by 2.7% that year, compared to a 37% decline in the consumer discretionary subindex and a 19% decline for the broad S&P 500.

When you take a closer look, though, the picture gets more complicated. Makers of packaged food have performed much better than those producing household goods like paper towels and soap. For instance, Campbell Soup and General Mills are up 30% and 25% for the year, respectively. Meanwhile Procter & Gamble, which makes Pampers diapers and Gillette razors, and Colgate-Palmolive, which makes toothpaste and dish soap, are both down around 7%. Clorox, which makes things like Glad trash bags and Brita water filters, besides its namesake bleach, is down 18%.

There are several reasons for the divergence between the sales of food and cleaning supplies. First is the lingering impact of Covid-19. Sales of both kinds of staples soared in the early days of the pandemic, but the days when consumers were stocking up on cleaning supplies is long over. That is less true for food: Many people upgraded their kitchens and cooking skills during the pandemic, and at-home food consumption has remained elevated.

There is more to the story, however. Among major listed companies, household-goods companies are far more global than packaged-food ones. For instance, P&G got 53% of revenue outside of North America in fiscal 2021, compared with 29% outside of the U.S. for Kraft Heinz. Economic weakness abroad has affected sales, and the strong dollar has meant these overseas earnings are worth less in dollar terms.

Barclays analysts Lauren Lieberman and Andrew Lazar note that these companies are more reliant on global supply chains, which means they have been more affected by global disruptions. These disruptions include everything from China’s lockdowns to war and energy shortages in Europe, as well as soaring shipping and logistics costs.

When comparing the four biggest food companies—General Mills, Kraft Heinz, Campbell Soup and Kellogg—with the four major household goods companies—P&G, Colgate-Palmolive, Kimberly-Clark and Clorox—it is clear that the latter have suffered greater margin pressure. The food companies on average saw gross margins decline by 2.4 percentage points between 2019 and the last four reported quarters, while the household-goods companies saw a drop of 4.7 percentage points, according to figures from S&P Global Market Intelligence. At Clorox, margins fell by 8.7 percentage points over the period.

Mondelez, which makes Oreos and Cadbury chocolate, has a highly international profile, with 71% of sales coming from outside the U.S. in 2021. Its stock is basically flat so far this year, and gross margins have declined by around 3.5 percentage points compared with 2019. This may explain why the company has not kept up with its peers.

Companies have all raised prices to counter higher costs, but the impact of these price hikes on consumer demand has tended to be bigger in household goods, say Ms. Lieberman and Mr. Lazar. In part this could be because consumers are still saving money by eating at home rather than dining out, making demand for groceries more resilient. It could also be because consumers have been faster to switch to private-label household goods like trash bags than with foods.

There is some hope for household-goods companies in 2023. If inflation continues to slow, this could improve margins and prompt the Federal Reserve to keep interest rates low or even stop increasing them. This in turn could weaken the US dollar. If China starts to reopen, this could increase consumer demand and ease supply bottlenecks.

The household-goods group is still relatively expensive, with the four major companies cited above currently trading at an average multiple of 25.5 times forward earnings, according to FactSet. This is compared with 17.6 times for the group of food companies. Given how poorly the household-goods category has performed during this market downturn, investors might want to reconsider whether the premium is justified.