There are a number of ways to choose where you invest, but a recent note from Goldman Sachs suggests that investing in companies with low labour costs could lead to great success, especially as wages and inflation continue to rise.
Low Labour Cost Outperformance
The recent note said that companies with low labour costs outperform the overall market, and the firm predicts that will continue as wages rise. A basket of stocks representing companies that have low labour costs is up 20% in 2017, versus the S&P 500’s gain of 14%. The stocks that Goldman tracked had an average labour cost as a percentage of revenue of around 3%, compared to the 11% average for the rest of the S&P 500.
Goldman’s report comes with the news that wages in the U.S. grew at an annualised rate of 2.9% in September 2017, which is the highest increase since 2009. Accelerated wage inflation could impact profits, and it creates an environment where companies with low labour costs will perform even better than their peers because less money is cutting into revenue.
Growing wages can be seen as a sign of inflation, which also increases the chance that the Federal Reserve will hike the interest rate in December. Investing now in stocks with low labour costs can position investors well as inflation increases. Wage growth tends to happen as inflation grows, so companies that have low labour costs are already positioned to withstand inflation better than their higher labour counterparts.
“Wage inflation is a factor in the equity market,” wrote Goldman strategist David Kostin. “Low labour cost firms will continue to outperform as wages rise.”
Reasons for Low-Cost Growth
Companies with low labour costs include Nike, MetLife, Apple, Netflix, and Boeing. Why do these types of companies tend to have greater success in the overall market? Goldman analysts suggest that investors are “rewarding firms less exposed to rising wages.” Low labour costs also show a company is smart about how it uses it resources, especially as automation and technology continue to grow and companies have more options of how to produce goods and services. Just because companies have low labour cost doesn’t mean they aren’t paying their employees fairly—in most cases, they are just smart about using their resources to build revenue.
Apple’s labour costs are just 2% of its revenue, and the company’s shares have increased 35% this year, while MetLife’s labour costs are just 4% and its shares have grown more than 10%. Both companies take advantage of new technology and quality products to drive profits.
The majority of low labour cost companies considered in the study are in the information technology industry, which suggests that the sector could continue to see growth. As an entire industry, technology has easily outperformed the broader market in 2017, with growth of nearly 28%. Some IT companies, such as Qualcomm and Skyworks Solutions, have a nearly non-existent labour cost of 0% of their total revenue. According to Goldman’s research, companies like these are poised for even greater growth and stability amidst growing wages.
Wages-based investments is just another approach to investing, but based on Goldman’s information, it could be a profitable way to choose where to invest, especially as the market continues to change in the future.