Pricing power tells winners from losers in times of inflation

US businesses are experiencing the hottest inflationary environment in 40 years, and those with the strongest pricing power will ride the inflation wave best. Financial services, technology, real estate, consumer staples, industrial goods and services, chemicals, insurance, and consumer goods and services – representing about 25% of US GDP and jobs – are best positioned if high inflation persists. Margins in those industries are highest and most stable, and production within them is concentrated among fewer firms. Plus, their equity returns outperformed as inflation worries rose in Q4 2021, a sign investors believe they can exercise pricing power.

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• The average EBIT (earnings before interest and taxes) margin of industries that demonstrate pricing power – that is, those with high and stable margins in H2 2021 – was about 16%, with a low standard deviation of 0.2%.
• Industry concentration indicates pricing power: the fewer the companies, the greater their ability to raise prices.
• The equity price gains of these industries outpaced their pre-Covid long-term averages by about 35ppts in Q4 2021 (annualized) as investors recognized their superior pricing power.