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This Too Shall Pass

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Always an independent thinker, Rudi has not shied away from making big out-of-consensus predictions that proved accurate later on. When Rio Tinto shares surged above $120 he wrote investors should sell. In mid-2008 he warned investors not to hold on to equities in oil producers. In August 2008 he predicted the largest sell-off in commodities stocks was about to follow. In 2009 he suggested Australian banks were an excellent buy. Between 2011 and 2015 Rudi consistently maintained investors were better off avoiding exposure to commodities and to commodities stocks. Post GFC, he dedicated his research to finding All-Weather Performers. See also "All-Weather Performers" on this website, as well as the Special Reports section.

Rudi's View | Nov 09 2016

This story features LINK ADMINISTRATION HOLDINGS LIMITED, and other companies. For more info SHARE ANALYSIS: LNK

In this week's Weekly Insights:

– This Too Shall Pass
– Rudi On Tour
– Nothing Ever Changes, Or Does It?
– Rudi On TV 

This Too Shall Pass

By Rudi Filapek-Vandyck, Editor FNArena

"The investment climate has been extremely frustrating in recent months, especially since it is so divorced from what we see as the basic economic and financial realities."
[A. Gary Shilling]

"This time is different"; reportedly the four most dangerous words in finance, so tell us experienced level-heads who've witnessed bubbles inflating and bursting.

But, of course, when we change the context away from investment bubbles, there are good causes to pay attention to because the world is in constant flux, continuously moving, adapting, meeting challenges, adapting again, and then the next barrier arises on the horizon.

Which leads me to what are probably the four most accurate, yet under-appreciated words by investors: this too shall pass.

This too shall pass. Nothing lasts forever.

Whether it is the shutdown of the global financial system in 2008, or the Commodities Super Cycle and the subprime mortgages fraud that preceded it; whether it is the synchronised global economic growth momentum pre-2008 or the low growth-low inflation environment governments, businesses and central bankers are coping with today.

It can last a long time, much longer than anyone can predict, but ultimately nothing lasts forever, and things will change.

Because life adapts.

Trends And Herds

For five long years economists worldwide have agreed and disagreed on whether the world is now hostage to a long term low growth paradigm. Numerous indicators seem to point that way. Too much debt, still rising in many regions. Demographic changes. Low productivity growth. Plenty of cheap money but little investment. Technological disruption. Social polarisation…

It took a while, but eventually financial markets succumbed to the fact that everything seems to be pointing that way. What had been a slow moving quicksand experience for resources stocks and many other cyclicals in Australia became a capitulation train-wreck from mid-2015 onwards.

A little over one year later, however, the darlings in the market carry names like Whitehaven Coal (up 64% in three months), South32 (+32.5%) and Sims Metal (+31.2%) and no longer TPG Telecom (-42.9%), Blackmores (-28.8%) or Macquarie Atlas Roads (-22.9%).

The past two months especially have been brutal for investors who underestimated the global portfolio rotation into cyclical growth. What was CSL trading at earlier this year? $120.86, closing price on 5th July. Today the shares are trading at $99-something.

The deflation in CSL's share price is indicative of what happened to all those stocks that seemed so well-placed to cope with the challenges of the New Global Normal: Ramsay Health Care, Transurban, Bapcor, et cetera.

The prime reason behind this switch can be summarised in two words: market positioning. As investors finally convinced themselves this was, yes indeed, a slowing growth environment with no pick-up in demand in sight, and with central bankers the only solace available, they all jumped on the same bandwagon, as you do.

Better the devil you know, et cetera.

By February this year, this double bandwagon effect had created the widest gap in valuations ever recorded by the team of market analysts at Goldman Sachs (going back until at least the 1980s, go figure) between market darlings (by then known as the "expensive defensives") and the misfits (miners, contractors, energy producers).

Some funds managers are now being quoted in financial media saying that, with hindsight, and given market positioning was that extreme earlier in 2016, the adjustment was always going to be extreme too.

There is, as per always, more happening in equity markets than just that; a lot more. Part of the investment community is preparing for a return of inflation. This feeds into fear that interest rates and bond yields might rise a lot faster next year than is currently priced in financial assets. Then there's fear for political processes and their potential outcomes. It's why so much cash has retreated to the sidelines.

There is a lot of fear in and around financial markets this year.

Growth Outlook Improved

If investors could have one wish it would be for global growth to accelerate back to normal next year, labour markets to tighten further, inflation to pick up and for central bankers to stop the silly Quantitative Experimenting and start jacking up interest rates. It would make everybody happy.

Indeed, if you are of the belief that financial markets always look forward, and their predictive power is sacrosanct and not to be questioned, then this is the signal you are reading since August. Everybody on board the new cyclical-growth-is-sexy trade!

Note then this is not the signal that is coming from this month's corporate AGMs and market updates. Companies are still challenged, cautious in their outlooks and investment plans and at best mildly optimistic about the year forward, even if the years past have been horrendous.

Many of the cheaper priced strugglers are still struggling, as witnessed by recent updates from companies including Flight Centre, Virgin Australia, AMP and Adairs. At the same time, many of the strong performers are still in excellent shape and performing well. Witness recent market updates by Harvey Norman, Corporate Travel, JB Hi-Fi, Ramsay Health Care and a2 Milk.

Yet, you wouldn't necessarily know from watching share prices go down, and further down in weeks past.

It is true the outlook for cyclical growth companies has improved this year, which is why their share prices are up, but the large gains on display are indicative of how unloved and deeply oversold these stocks were in February rather than the advent of a new strong economic upswing.

For bulk commodities in particular it is anyone's guess how long prices can hold up, and what the next sustainable level might be, but it seems dangerous to extrapolate 2016 thus far too far into the future.

More than ever the outlook for commodities prices centres around China's housing, policies, credit, stimulus, inventories and domestic production. Investors and analysts outside China don't have a good track record in accurately reading what exactly goes on inside the Middle Kingdom.

Financial markets always look forward, but they do so by translating short term signals into long term trends.

Out Of Fashion

Financial markets are adjusting for the fact there is now enough justification to include miners, contractors and other cyclicals in one's portfolio and investment strategy, but look through the adjustment, no matter how brutal it has been in weeks past, and at the other end of this process a high quality company with growth under its wings will still remain a high quality company with growth.

In other words: you never remain out of fashion for too long if you keep those characteristics attached to yourself. Since I wrote about Link Administration Services ((LNK)) in October, I spotted other experts praising the virtues of this stocks, and why investors should own it in their portfolio after the recent sell-down. The same applies for Aconex ((ACX)) and Vocus Communications ((VOC)) which I also mentioned at the time.

But the local slaughter-fest in the share market has battered and bruised many share prices of many quality companies with solid growth prospects, including iSentia ((ISD)), Hansen Technologies ((HSN)), NextDC ((NXT)), Altium ((ALU)), ARB Corp ((ARB)), Bellamy's ((BAL)),.. the list goes on, and on.

Sure the world could well go to hell in a hand basket tomorrow, but as one wise man once concluded, such extreme outcome scenarios have a persistent habit of ultimately not happening.

Don't get reckless and ignore all risks, but also don't let the general climate of fear and uncertainty prevent you from owning beaten down assets that remain poised to generate lots of satisfaction medium to longer term.

Bull Market, Where Art Thou?

Will we ever see a genuine bull market again for Australian equities?, one FNArena subscriber asked me last week.

The question comes at a time the ASX200 has made no net gains since October 2013; 37 long months, and counting. In between we have seen 4737 and 5975 but above all, a lot of volatility and sector rotations. It would be a grave understatement to simply describe the past three years as "challenging" for equity investors.

But here too the same mantra applies: this too shall pass. Eventually.

The key factors that are currently weighing on global growth – from demographics, to tech disruption, to too much debt, to low productivity, et cetera – they will turn and become positive contributors again, at some point.

Until then, however, it's probably best not to get too carried away with whatever small surprises life throws at us. All that cash on the sidelines should, at least in parts, find its way back into equities. Exact timing unknown. When it does, there certainly is the prospect for a healthy return.

In the same vein, let's not kid ourselves there's an easy, ready-to-use solution out there to get us out of this quagmire. Today's a world in transition. We have to make sure we adapt as the transition unfolds.

And never forget: all this too shall pass. For better and for worse.

Rudi On Tour

I will be presenting:

– Christmas Special for Chatswood members of Australian Investors' Association (AIA), December 14, 7pm

– To Sydney chapter of Australian Shareholders' Association (ASA), December 15, noon-1pm, Sydney Mechanics School of Arts, 280 Pitt Street

– To Perth chapters of Australian Investors' Association (AIA) and Australian Shareholders' Association (ASA) on 7 February 2017

– At the ASA Conference 2017, Grand Hyatt Melbourne, 15-17 May 2017

Nothing Ever Changes, Or Does It?

Yes, of course, investing in the share market is never really different and best working strategies today are the same that worked pre-GFC. Seriously. I tell you, seriously.

Now that we had a good laugh about it, let's get straight to business. This is a low growth environment. Has been since 2010 (it was masked at the time because of the V-shaped recovery from the global recession) and it is not likely to change fundamentally in the near term. I wrote a book about this (see below). This means investment strategies must adapt. You'll be turning your portfolio into a wish list for dinosaurs otherwise (and your returns will be a reflection of it).

Those not afraid to contemplate "this time is different" can subscribe to FNArena and read all about it in our bonus eBooklets 'Make Risk Your Friend' (free with a paid 6 or 12 months subscription) plus the freshly published eBook 'Change. Investing in a low growth world' (equally free with subscription, or available through Amazon and other online distributors).

Here's the link to Amazon: https://goo.gl/XVMzmP

See also further below.

Rudi On TV

– On Tuesday, around 11.15am, on Sky Business, I shall make a brief appearance through Skype-link to discuss broker ratings for less than ten minutes
– On Friday, around 11.05am, on Sky Business, I shall make a brief appearance through Skype-link to discuss broker ratings for less than ten minutes

(This story was written on Monday 7th November 2016. It was published on the day in the form of an email to paying subscribers at FNArena).

(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views are mine and not by association FNArena's – see disclaimer on the website.

In addition, since FNArena runs a Model Portfolio based upon my research on All-Weather Performers it is more than likely that stocks mentioned are included in this Model Portfolio. For all questions about this: info@fnarena.com or via Editor Direct on the website).

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BONUS PUBLICATIONS FOR FNARENA SUBSCRIBERS

Paid subscribers to FNArena receive several bonus publications, at no extra cost, including:

– The AUD and the Australian Share Market (which stocks benefit from a weaker AUD, and which ones don't?)
– Make Risk Your Friend. Finding All-Weather Performers, January 2013 (The rationale behind investing in stocks that perform irrespective of the overall investment climate)
– Make Risk Your Friend. Finding All-Weather Performers, December 2014 (The follow-up that accounts for an ever changing world and updated stock selection)
 Change. Investing in a Low Growth World. eBook that sells through Amazon and other channels. Tackles the main issues impacting on investment strategies today and the world of tomorrow. This book should transform your views and your investment strategies. Can you afford not to read it?

Subscriptions cost $380 for twelve months or $210 for six and can be purchased here (depending on your status, a subscription to FNArena might be tax deductible): https://www.fnarena.com/index2.cfm?type=dsp_signup 

FNArena has reformatted its monthly price tracker file for All-Weather Performers. Last updated until October 31st. Paying subscribers can request a copy at info@fnarena.com

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CHARTS

ALU ARB HSN ISD LNK NXT VOC

For more info SHARE ANALYSIS: ALU - ALTIUM

For more info SHARE ANALYSIS: ARB - ARB CORPORATION LIMITED

For more info SHARE ANALYSIS: HSN - HANSEN TECHNOLOGIES LIMITED

For more info SHARE ANALYSIS: ISD - ISENTIA GROUP LIMITED

For more info SHARE ANALYSIS: LNK - LINK ADMINISTRATION HOLDINGS LIMITED

For more info SHARE ANALYSIS: NXT - NEXTDC LIMITED

For more info SHARE ANALYSIS: VOC - VOCUS GROUP LIMITED