Josh Pokrzywinski: Deflationary Opportunities

While inflation remains high and the battle to bring it down is top of mind, there may be some opportunities in technologies that could help bring down inflation in some sectors.

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Welcome to Thoughts on the Market. I'm Josh Pokrzywinski, Morgan Stanley's U.S. Electrical Equipment and Multi-Industry Analyst. Along with my colleagues, bringing you a variety of perspectives, I'll be talking about deflationary opportunities in this high inflation environment. It's Monday, August 8th, at 4 p.m. in New York.

As most listeners no doubt know, the battle to bring down inflation is the topic of 2022. But today I want to talk about inflation from a slightly different perspective, and that's how automation and productivity enhancing technologies could actually help bring down inflation in areas such as labor, supply chain procurement and energy.

And while these technologies require capital investment, something that's often difficult when the economy is uncertain, we believe structural changes in demographics, energy policy and security, and an aging capital base make technologies focused on cost reductions and productivity actually more valuable.

So for investors focusing on stocks that enable productivity and cost reduction through automation, efficiency, or their own declining cost curves while maintaining strong barriers to entry and attractive equity risk/reward, is something to consider.

To dig into this, the U.S. Equity Strategy Team and equity analysts across the spectrum at Morgan Stanley Research created a deflation enabler shopping list. And that list is composed of stocks that produce tangible cost savings for their customers, where costs themselves are rising due to inflation, such as labor and energy, or scarcity, for example semiconductors or materials. In many cases, the cost of the product itself has also come down through technology or economies of scale, benefitting the purchaser and therefore adoption on both lower cost to implement and higher cost avoidance through use.

So where should investors look? Although there are a number of deflationary companies across areas such as automation and semiconductors, we identified three major deflationary technologies which permeate across sectors and which are at long term inflection points in their importance for both enterprise and consumer.

The first is artificial intelligence or AI. AI is proving relentless and increasingly deflationary. In biotech, AI could shorten development timelines, lower R&D spend and improve probability of success.

The second is clean energy. My colleague Stephen Burd, who covers clean energy and utilities, has pointed out that against the backdrop of inflationary fossil fuels and utility bills, companies with deflationary clean energy technologies and high barriers to entry will be able to grow rapidly and generate increasing margins.

And finally, mass energy storage and mobility. Although the cost of batteries have been falling for some time, competition in the space has led to heightened investment. In addition, ambitious top down government emissions goals have facilitated an exponential uplift in demand for batteries and their component raw materials.

Although supply chains for batteries remain immature, battery storage technology is only beginning to have profound effects on society mobility, inclusivity and ultimately climate. As investment by automakers rises along with generous European subsidies aimed at staying competitive with U.S. and Chinese investment, the supply chain and innovation in new battery technologies such as solid state mean that the price should continue to fall as innovation and demand rise.

This is extended beyond the personal vehicle market, with the cost savings and efficiency improvements driving profound changes and improvements in the range and cost of heavy duty and long haul trucking EV, and ultimately autonomous, markets.

To sum up, in an inflationary world we believe companies that have developed deflationary products and services will become increasingly valuable, as long as they have significant barriers to entry with respect to those products and services.

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