How Hershey Can Teach You All You Need to Know About Inflation
- Mar 23, 2006
- admin
- Investing
Kill Ben VOLUME I – SYNOPSIS:
“The acclaimed movie from groundbreaking financial writer and investor Dylan Jovine stars Ben Bernanke and Alan Greenspan in an astonishing, action-packed thriller about the money supply, inflation and interest rates.
Three months after assuming control of the Federal Reserve Board, The new Chairman (Bernanke) emerges from a big shadow and decides to become his own man…with a vengeance!
Having been scared to death down by his former boss’ (Greenspan) belief in cheap money and his deadly squad of financial statistics, it’s a kill-or-be-killed fight against inflation that he didn’t start but is determined to finish!
Loaded with huge ramifications for all Americans, it’s still a must see event that will affect us for many years to come!”
WHAT DO YOU THINK?
Should I begin work on the screenplay?
Ok, I’ll put the screenplay idea in the can for today and talk about a subject that has been on everyone’s mind this week – producer prices.
This week’s data confirmed that producer prices were indeed rising.
Why is this so important?
Because when producers have to pay more to make the stuff they sell us they pass that price increase onto consumers – and that could lead to inflation.
Ask any investor who has lived through the 1970’s and they will tell you inflation is one of the biggest destroyers of wealth!
Let me explain why using Hershey Foods (SYM: HSY) as an example.
Let’s say that last year you bought a Hershey Bar for $1.
But now – in 2006 – the price of the same bar has risen to $1.05.
That’s an increase of 5 percent.
Now that wouldn’t be so bad if your salary increased by 5 percent as well.
But wages generally increase at 2.5 percent per year.
So what does that mean to you?
It means that you are actually LOSING 2 1/2 cents per year for every $1 you have.
That’s a net loss of 2.5 percent.
That means that you lose $2,500.00 in purchasing power each year for every $100,000 you earn.
That’s a lot of chocolate.
What does that have to do with this week’s Producer Price Index (PPI)?
Plenty.
The PPI measures the amount it costs COMPANIES to make the products they sell to YOU.
And, as evidenced by the data this week (and for months), the PPI is rising.
As a matter of fact, the PPI rose healthy .3 percent alone.
.3 percent’s a big number.
A .3 percent rise in producer prices can have a devastating effect on companies and their stocks.
Let me explain why using Hershey again as an example:
Let’s say Hershey sells $100 worth of chocolate each day and it cost them $80 to do it.
What they have left over is a profit of $20 bucks.
Income Statement
Sales $100
– Cost $80
= Profit $20
Now let’s say that Hershey sells the SAME $100 worth of chocolate but now they have to pay their suppliers 5% more.
Here’s what their income statement looks like now:
Sales $100
– Cost $84 (increased by 5%)
= Profit $16
Hershey’s profit just dropped from $20 to $16 automatically.
That’s not the half of it.
What’s even worse is that MOST companies can’t pass the price increase onto its customers.
That means that the company eats the entire price increase itself.
That causes profits to decline.
And we all know what happens to stock prices when profits drop. Pretty rough.
But that’s the bad news.
Want to know the good news? Here it is:
Some companies are able to raise prices above the inflation rate.
As a matter of fact, Hershey is one of them – last year they announced that they were raising prices by almost 6 percent!
Now let’s see what Hershey’s income statement looks like when it increases prices.
Sales $106 (increased by 6%)
– Cost $84 (increased by 5%)
= Profit $22
Amazingly, Hershey is able to EARN EVEN HIGHER PROFITS THEN BEFORE!
How is that possible?
Because Hershey has a brand name that is powerful enough to make it happen.
But most companies don’t have that luxury.
Think about it.
Many of companies that you own in your portfolio don’t have pricing power at all.
They’ll have to absorb the cost all by their lonesome.
That will send their profits tanking which means their stocks are sure to follow.
That means that you should keep a strong eye on producer prices.
In fact, you should look at your portfolio and decide what stocks pose the biggest risks for you.
Remember – you are what you read,
Dylan P. Jovine