How to Invest in Stocks Amid Serious Inflation Risks: Goldman Sachs

• Investors look to protect their portfolios as inflation hits 40-year highs.
• Goldman Sachs recommends investing in sectors such as healthcare, energy and telecom services.
• We’ve extensively compiled advice from GS, including ETFs that offer exposure to their stock sector picks.

Federal Reserve officials have become increasingly aggressive in their fight against inflation, raising interest rates in large increments of 75 basis points.

Because inflation is also putting up a good fight. The key consumer price index, which excludes volatile energy and food costs, rose to an annual rate of 6.6% in September — the highest level since 1982. And while the Fed is just doing its job, there are serious risks to the stock market and economy.

“The Fed is committed to taking an aggressive approach to taming inflation by slowing economic growth, but the path to achieving the necessary slowdown without plunging the US into recession is fraught with pitfalls,” said David Kostin, the chief strategist for US stocks at Goldman Sachs, said in a recent note to clients.

The report predicts that the US has a 35% chance of entering a recession next year. However, amid weakening rate hikes, investors are looking for ways to protect against a harsh macro environment. In an Oct. 18 note, Kostin outlined how to invest in each sector of the S&P 500 and profit from remaining upside given inflation risks.

Overweight sector recommendations

Healthcare, consumer staples and the Telecom Services industry group offer investors “defensive exposure”. Amid a looming global recession, these market segments will suffer less of an impact from rate hikes and monetary tightening, the investment bank says.

“Our sector overweight recommendations are generally defensive and reflect the significant risks to earnings and valuations in an environment of elevated inflation and interest rates,” Kostin wrote.

In addition, returns from the health care and consumer staples sectors have shown the strongest correlation with tightening financial conditions since the 1990s. In other words, they tend to do well when Fed policy is as it is now.

Goldman Sachs

Energy also ‘captures’ the upside of the Bank’s commodity price outlook and serves as a hedge against stagflation. Thanks in part to higher oil prices, energy is the only S&P 500 sector in the green year-to-date. Analysts at Goldman Sachs expect the sector’s earnings to continue growing above consensus rates in the coming year.

Finally, investing in durable goods and apparel “offers a counterweight to exposure to a group within a cyclical sector,” Kostin wrote. “This group is trading at historically low valuations relative to the S&P 500 multiple and 10-year yields.”

Goldman recommends underweight stocks in the industrials and materials sectors, as well as in the semiconductors, media and entertainment, automobiles and components, and technology hardware subgroups. These tend to underperform when the economy slows.

“Our underweights are more cyclical as we seek to minimize sensitivity to a prolonged economic slowdown,” he said.

He recommended neutral weights in financials, consumer discretionary (excluding autos and non-durable goods), real estate and utilities.

Here are Goldman’s full recommendations:

Goldman Sachs

And below are five ETFs that offer exposure to Goldman’s overweight sector and industry group choices.