(Bloomberg) – As the global inflation debate deepens, equity investors are optimizing their portfolios to mitigate the effects of price pressures. A preference for companies with the greatest pricing power is an approach that investors from JPMorgan Asset Management to Pictet Wealth are taking to management. While cyclical stocks remain positive, fund managers are becoming more selective as the pockets of the economically sensitive asset class may have run too fast and too far. “They’re hiding in pricing power companies – those companies that will be able to withstand higher raw material costs and end-user wages,” said Cesar Perez Ruiz, chief investment officer at Pictet Wealth Management in Geneva. “Luxury and concession companies linked to inflation are some of the sectors that will benefit, but even some cyclical or commodity companies have more pricing power now than they did a few years ago.” A rise in US consumer prices in April by most in a decade has intensified an already heated debate about how long inflationary pressures can last. Higher-than-expected factory prices in China last month and the rise in raw material prices added to the concerns. Worries have started to weigh on inventory levels. MSCI Inc.’s global equity benchmark fell 1.6% this week, its largest drop since February. Technology stocks took the brunt of the weakness as investors bet that the return of inflation will bring higher interest rates that could hurt stocks with elevated valuations. Wall Street can’t agree on whether inflation is good or bad for stocks According to Richard Saldanha, portfolio manager at Aviva Investors, paint makers have historically been good at passing on price pressures, albeit usually with a time lag. However, there are different views as to how far this is currently the case. “Consensus believes that cyclical areas exist. Banks and industrial companies are where to hide in an inflationary environment,” said Caroline Keen, portfolio manager at JPMorgan Global Growth Fund. “We would counteract the fact that banks in general are not price-setters and that many industrial companies such as cars are struggling with cost increases and cannot pass them on to consumers.” PriceyCyclical names are also becoming more and more expensive. According to Bloomberg, banks are now trading around 1.1 times their book value, above the sector’s 10-year average. The equivalent for material stocks is even more extreme after recent rallies in commodities like copper and iron ore. This made the portfolio manager of UBS Asset Management, Max Anderl, “a little cautious” after a strong rally this year against traditional inflation hedges such as financial stocks or miners. “We prefer to look at selected stocks in the IT and media sectors that continue to have exceptionally strong fundamentals but have corrected this factor rotation significantly,” said Ricardo Gil, Head of Asset Allocation at Trea Asset Management in Madrid. bypassing the overall debate and focusing on single stock ideas or non-inflation investment themes. With reflation bets triggering sector rotation, stock correlations go down, which is good news for fund managers looking to beat indices by stock picking. When most stocks are moving in different directions, it’s easier to choose one that stands out from the crowd. The three-month realized correlation of the S&P 500 Index – a measure of how closely the top stocks in the US benchmark move relative to one another – remains well below the average of the last 10 years. “Our way of coping is by overweighting equity alternatives such as merger arbitrage and CTAs and focusing on idiosyncratic ideas rather than broader sectors,” said Oliver Scharping, Portfolio Manager at Bantleon AG Not everyone believes that the world is set for a new era of higher prices , and JPMorgan’s Keen is not making any significant changes to its portfolio despite recent inflation concerns. The portfolio manager views inflation due to year-over-year base effects and as temporary to temporary bottlenecks in the supply chain and is aware of the structural deflationary forces that persist, such as technology, high debt and poor demographics. “Credit growth remains dumb and fiscal incentives come with offsetting tax increases,” said Keen. “So far we have seen no evidence that we are entering a new inflation regime. More articles like this can be found at bloomberg.com. Sign up now to stay up to date with the most trusted business news source. © 2021 Bloomberg L.P.