Inflation soars to 5.5%. Here are 3 cheap FTSE 100 stocks I’d buy to beat it

Inflation is becoming a bigger challenge every day. Take a look at the latest numbers, for instance. Prices rose by a huge 5.5% in January on a year-on-year basis. It is up from the already high 5.4% number we saw last month and significantly higher than the Bank of England’s target rate of 2%. This poses a challenge to my FTSE 100 investments without a shadow of a doubt. Higher prices hit companies in two ways. One, their costs rise, and two, their revenues could decline as consumers’ costs of living rise.

This hurts right now, because such high inflation numbers have not been seen in a very long time. Thirty years, to be exact. It makes the future of my investments less predictable. But where there are challenges, there are opportunities in macro investing right now. There are a number of ways to look at these opportunities. Here I contextualise them in terms of holding period. If I want to make an investment based on inflation for the short to medium time frame of two to three years, for example, I would focus on oil stocks. 

Oil stocks are a good bet as inflation soars

FTSE 100 oil biggies BP and Royal Dutch Shell have made gains over the past year. But they are still cheap in terms of market valuations. BP has a price-to-earnings (P/E) ratio of 14 times while Shell is just north of 10 times. This is less than the average FTSE 100 ratio of around 16 times. This in itself is reason to believe that there is upside to these stocks. Moreover, the fact that they are still trading below their pre-pandemic levels convinces me even more that they are cheap. Especially now, when oil prices are on a tear. It is quite likely that their profits will continue to rise and so will their dividends.

Of course in the long term, we do not know what happens to big oil. If these companies successfully transition into clean energy producers, they might just be good long-term plays, but we do not know that yet. However, for the foreseeable future, they are likely to be very lucrative stocks to hold. I am planning to increase my positions in both stocks. 

Long-term FTSE 100 play

Next, consider a longer time frame, say the next five years or so. If high inflation persists, what is the eventual outcome? Lower growth, that is what. In any case, we should always be prepared for slowdowns that occur in the course of the business cycle. And there is one set of stocks that is always a good go-to during such times. Defensives, or companies whose products and services’ demand is predictable even during tough times. The one defensive I like for the long-term from among my investments is the utility company SSE, which is also a big clean energy producer. 

The stock has a really low P/E of 6.2 times and a pretty decent dividend yield of 5.3%. This is just slightly smaller than the current inflation level. In its trading statement earlier this month, the company upgraded its earnings guidance, which bodes well for its share price in the future. Its share price has underwhelmed recently, but over the long term, I reckon it will come out ahead.  

Manika Premsingh owns BP, Royal Dutch Shell and SSE. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.