Bigger Paychecks Are Weighing On Stocks (Some More Than Others)

Bigger Paychecks Are Weighing On Stocks (Some More Than Others)
Theodora Lee Joseph, CFA

9 months ago2 mins

The millions of recent pay raises might be a good thing for the workers who got them, but they could be weighing on your portfolio.

Unemployment rates are lower than they’ve been in at least three decades across the ten biggest advanced economies – five decades for the US. The smaller pool of unemployed people is making it harder to hire – and causing companies to pay more in wages, which could potentially add to inflationary pressures for the economy overall.

Higher wages aren’t necessarily a problem if companies can pass along the cost increases to their customers. But in a higher-interest-rate and low-growth environment, it’ll be tough for companies to do so. They’ll face a difficult choice: increase prices and see demand fall, or absorb the costs and see margins squeezed. Salaries and associated costs currently make up 17% of revenue for STOXX 600 companies, and more than 150% of operating income. According to Goldman Sachs estimates, a 5% increase in wages (all other things being equal), could result in a drop in earnings of 10% or more.

The chart above shows how each sector in the STOXX 600 ranks on labor cost (as a percentage of sales) and profit margins. Overall, sectors like construction and materials, industrials, travel and leisure, and autos and parts screen as the most vulnerable, with high relative labor costs and low margins. Energy, basic resources, and utility companies have the least to worry about on wage costs. And the healthcare and technology sectors have a high labor cost base but tend to have high productivity per employee and an industry structure that allows them to pass on costs.

Pay is still rising, so it might make sense to avoid investing in sectors where companies will likely face big margin squeezes and wage increases. In the longer run, it pays to look for companies with pricing power or those who enable lower wage costs, like the automation industry. You can invest through ETFs like the Global X Robotics & Artificial Intelligence ETF (ticker: BOTZ; expense ratio: 0.68%).



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