Great Retailers. Great Defensive Plays

Summary

  • The business cycle drives asset prices.
  • In a strong economy, buy cyclicals.
  • These retailers are very sensitive to business cycle developments.

The business cycle is the outcome of business decisions. Politicians try to bias these decisions, but managers rarely change their focus. Business managers' concern is sales - sales do not happen unless goods are on the shelves.

The management of inventory levels to match changes in demand is what drives the business cycle. All my articles deal with this critical decision process and how it impacts many asset classes from gold, to metals, to bonds, to energy and energy stocks.

Source: Author

The essence of the inventory cycle is to adjust inventory levels through the production process. At the end of Phase 1 (see above chart), managers recognize inventories were reduced to excessively low levels compared to the underlying demand. They decide, therefore, inventories need to be replenished. This decision results in a series of other decisions such as buying raw materials needed to produce the goods, hiring people and paying them to manufacture the goods, and borrowing money to improve capacity and paying short-term cash needs.

Because of these decisions, commodities, employment, and interest rates stop declining. As income and demand increase, production also needs to expand to build-up inventories. Growth becomes self-sustaining.

In Phase 2 - this is where we are now - manufacturing is very strong. Commodities rise, interest rates rise, and income also increases. Eventually inflation rises toward the end of Phase 2 as productive capacity is stretched to meet demand.

Demand slows down as consumer spending power declines when adjusted for inflation. Business decides to reduce inventories. The slowdown is taking hold in Phases 3 and 4 and the process is exactly the opposite of what was happening in Phases 1 and 2. The outcome is reduction of purchases of raw materials, reduction of employment and wages, reduction of borrowing. These decisions place downward pressure on commodities, inflation, and interest rates.

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Comments

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Kurt Benson 1 month ago Member's comment

Looking for $COST move tomorrow.