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Mayday, Mayday For Mainstream Stocks

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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 | May 10 2017

In this week's Weekly Insights:

-Mayday, Mayday For Mainstream Stocks
-All-Weather Model Portfolio: Setting The Record Straight
-No Weekly Insights Next Week
-Conviction Calls: Morgan Stanley, CS, Patersons, Wilsons and Morgans
-Bond Proxies: Not What You Think
-2016 – L'Année Extraordinaire
-All-Weather Model Portfolio
-Rudi On TV
-Rudi On Tour

Mayday, Mayday For Mainstream Stocks

By Rudi Filapek-Vandyck, Editor FNArena

The calendar says "May" and that means investors are being bombarded with historical "evidence" May is not a good month to be in equities. Sell in May, we have all heard the expression, over and over and over, again.

This despite the fact a closer look into details shows the adage doesn't always work, or for a brief period only. Statistics certainly don't provide for context or explanation. Last year, for example, equities held up until the focus shifted to the British referendum and even then the weakness was short-lived with a strong rally building into a peak, but not until mid-August.

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Having said so, something profoundly fundamental has changed in the domestic equity market over the past week or so. And it ain't good news for those hoping to witness 6000 and beyond in the short term.

May is also the month when three out of Big Four banks in Australia unleash their interim financial performance upon investors, while Macquarie Group ((MQG)) joins in and CommBank ((CBA)) adds a trading update.

This year, these releases have been preceded by notable strength in share prices, and by a public debate whether local bank shares are now fair value, expensive or overvalued. Such debates are not unusual and they are ultimately won, or lost, by the banks themselves.

What I am referring to is the banks' capability to outdo analysts' expectations and to force these analysts to lift forecasts and valuations. It is not uncommon for the banks to achieve this and the subsequent increase in stockbroking analysts price targets then justifies the rally leading into reporting season and dividend payouts.

This year something remarkable happened. ANZ Bank ((ANZ)) missed and National Australia Bank ((NAB)) beat expectations, but in both cases any changes in consensus price targets and valuations cannot be seen by the naked eye. I am fairly confident both Westpac ((WBC)) and CommBank will be following the same script.

This then puts overall attention back on the banks' tepid growth outlook, the many risks from a slowing apartment market, subdued retail spending and oversized household debts. Eventually someone will ask the question: does the overall context really support banks' elevated valuations near post-GFC highs?

The answer, I suspect, will be negative.

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One of the major new complications on the horizon, for Australian banks and for the Australian economy in general, is the fact that one major support from the past years, housing construction, has potentially already peaked with a protracted downturn seen as the logical next phase.

Certainly, tighter lending standards, higher lending rates, reduced foreign investment and increased supply relative to demand all point into this direction.

If you look closely you'll see the share market already is preparing for such an outcome, albeit not in an universal manner. Retail stocks are in the doldrums, and it's not just about Amazon coming, while retail landlords have equally lagged the revival in bond proxies.

Investment strategists at Citi already have incorporated this emerging new trend into forecasts and strategy. The following summarises their advice for investors in the local share market:

"Our analysts see implications for the profitability and growth prospects of the banks, rising settlement risk in the A-REIT sector with some read through for retail landlords, increased pressure on retailers' earnings and share prices, still strong volume growth for the builders but pressure on share prices, and relative company resilience in the small cap building products space."

For good measure: Citi is not projecting anything more than potentially a mild retreat ("correction" if you like to use the word) in property prices in Melbourne and Sydney during the course of the next two years. So no genuine disaster stories on the horizon, but a visible shift in market dynamics nonetheless.

The largest price falls would be among higher rise, inner city apartments in Brisbane and Melbourne given their greater potential for oversupply. From next year onwards, dwelling construction is projected to move into negative growth ("decline") and act as a drag on economic growth in general.

Discretionary consumer spending shall likely be victim number one, while the RBA, and APRA, don't want any more increase in household debt. No surprise, Citi is forecasting a noticeable slowing in mortgage growth lays ahead.

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At least miners and energy stocks already have had their correction from rally highs. Relative to the banks, and most other industrials, resources stocks look cheap, with plenty of growth under the belt for this year.

The sector is presently buzzing with rumours about a number of hedge funds being on the wrong side of a declining oil price. The selling pressure that descended on commodities last week would have been caused by forced liquidation of market positions.

No doubt, if there is any truth to these market rumours, we will read and hear more about this in due course.

Meanwhile, Chinese economic indicators are slowing and, of more importance, Chinese authorities are again reining in excessive liquidity. The combination of all three, or even of the latter two, can be quite devastating. At least in the short term.

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While all the above suggests the overall climate might be changing for Australian equities, I still believe investors' belief in higher index levels by year-end has not been impacted. The natural response would thus be to take profits on overstretched banks, in particular after they go ex-dividend, and to look for alternative opportunities elsewhere.

With many of the recognised and established growth stories among financials and industrials already having participated in the rally, investor focus is likely to descend to the next level of laggards. Stocks like Altium ((ALU)), Webjet ((WEB)), Link Administration ((LNK)), Speedcast International ((SDA)), and a whole slew of others, are still far from fully appreciated, they are not tainted by the "retail" or "NBN" tag while promising plenty of growth on the horizon.

In the absence of a genuine Risk Off event, portfolio rotation is likely to be the next short term opportunity for active equity investors.

All-Weather Model Portfolio: Setting The Record Straight

Our partner in Queensland, Vested Equities, sent out an email last week which might have caused some confusion among investors with an interest into how the All-Weather Model Portfolio is performing in 2017. This now provides us with an opportunity to set the record straight, erase any ambiguity and potential confusion, while publishing a performance update; all in one effort.

Year-to-date performance is still suffering from a bleak January, but the portfolio's performance has since picked up, outgrowing the major index over one and three months. Performance has particularly been strong since mid-April.

The yellow line is the ASX200. The blue line is the Model Portfolio. For more information: see further below.

No Weekly Insights Next Week

Next week I'll be presenting at the Australian Shareholders Association's (ASA) National Conference in Melbourne, Securing Your Investing Future. There will be no Weekly Insights that week as a result. Next edition will be written and mailed out in the week starting Monday, 22nd May.

All those attending the Conference: don't be shy to say hello. I'll be carrying along a pile of paperback books too. I am presenting in Savoy 1, Monday, 11.40-12.40, The Contrarian Investor.

Conviction Calls: Morgan Stanley, CS, Patersons, Wilsons and Morgans

Small cap specialists at Morgan Stanley have reiterated their conviction in Aconex ((ACX)), Baby Bunting ((BBN)) and Corporate Travel ((CTD)). The first two have suffered a lot of weakness over the last nine months or so. Undeservedly if Morgan Stanley's research can be relied upon.

Both share prices have started to show signs of life this month.The latter issued yet another profit guidance upgrade last week and the analysts remain of the view there's ongoing positive momentum in the pipeline.

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Australian equities are not cheap when compared to historical valuations, but this is not necessarily the case when compared to global peer valuations. Analysts at Credit Suisse have done the research and found eight ASX-listed stocks that still look undervalued in comparison with global peers:

-Altium ((ALU))
-Clydesdale Bank ((CYB))
-Lend Lease ((LLC))
-Magellan ((MFG))
-Metcash ((MTS))
-Origin Energy ((ORG))
-Star Entertainment ((SGR))
-Tassal Group ((TGR))

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Stockbroker Patersons has updated its QVR Porfolio. QVR stands for "quality, value at risk". The QVR Portfolio essentially comprises of twenty conviction stocks. Whoever compiles the list takes a 3-5 years view, and very much likes the Big and Established in the local market. Currently included are:

-Amcor ((AMC))
-ANZ Bank ((ANZ))
-BHP Billiton ((BHP))
-Commbank ((CBA))
-Challenger ((CGF))
-Charter Hall Group ((CHC))
-CSL ((CSL))
-DuluxGroup ((DLX))
-National Australia Bank ((NAB))
-Programmed Maintenance ((PRG))
-Rio Tinto ((RIO))
-Sydney Airport ((SYD))
-Telstra ((TLS))
-Woodside Petroleum ((WPL))
-South32 ((S32))

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Small Cap afficionado Wilsons has lost a number of research analysts. As a consequence, Sealink Travel ((SLK)), Whitehaven Coal ((WHC)) and Independence Group ((IGO)) have all been dropped from the Conviction List, which now consists of the following eleven inclusions:

-Afterpay ((AFY))
-EML Payments ((EML))
-Class ((CL1))
-TechnologyOne ((TNE))
-Rural Funds Group ((RFF))
-Collins Foods ((CKF))
-Ridley Corp ((RIC))
-Impedimed ((IPD))
-Nanosonics ((NAN))
-Opthea ((OPT))
-SomnoMed ((SOM))

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Stockbroker Morgans has updated its list of Conviction Buys by adding Westpac ((WBC)), pre-results release it has to be noted. Other inclusions remain:

-Macquarie Atlas Roads ((MQA))
-Orora ((ORA))
-ResMed ((RMD))
-Oil Search ((OSH))
-Beacon Lighting ((BLX))
-Bapcor ((BAP))
-Speedcast International ((SDA))

Bond Proxies: Not What You Think

In what is yet another example of the equities market does not necessarily follow everyman's logic, analysis by Citi has revealed passive REITs are less susceptible to rising/falling bond yields than active property & asset managers.

At face value, this defies common logic. A passive landlord has, usually, very little to offer and therefore its value is often simply, and solely, the income and the security of that income to investors. Hence why the value/yield on government bonds is so important; bonds act as an alternative investment option.

Active operators, on the other hand, take risks, make investments, grab opportunities and create shareholder value outside of the realms of simply paying out dividends. Their raison d'etre is to offer yield and growth, which should make their proposition to investors less dependable on what is happening in the bond market.

And yet, from the moment we look into actual share price correlations and sensitivities, the opposite proves to be true. Pure bond proxies move less than one would have thought, their active cousins move a lot more on changes in the bond market.

How to explain this?

My instinctive response is to seek for an explanation in active investors sentiment and portfolio changes and analysts at Citi are taking a similar approach. Equity investors are more attracted to the active group as "active" and "growth" are two key terms that closely match equity investors' own modus operandi. It's what they understand best. Hence their preference lays with the active managers.

Also, point out Citi analysts, don't forget about the fact that funds management and property development are also impacted by bond yields, so there may actually be a higher leverage in play with active managers.

Citi thinks bond yields will be higher by year-end. Investors worried about the impact on their investments should thus worry more about Stockland ((SGP)), Goodman Group ((GMG)) and Mirvac ((MGR)) than, say, about Investa Office Trust ((IOF)), Shopping Centres Australasia ((SCP)) or Asia Pacific Data Centre Group ((AJD)).

For those investors positioning for lower bond yields ahead, a contrarian view at this stage, Citi's favourites are, unsurprisingly, two active managers; Charter Hall ((CHC)) and Stockland.

2016 – L'Année Extraordinaire

It was quite the exceptional year, 2016, and I did grab the opportunity to write down my observations and offer investors today the opportunity to look back, relive the moments and draw some hard conclusions about investing in the world today.

If you are a paid subscriber to FNArena, and you still haven't downloaded your copy, all you have to do is visit the website, look up "Special Reports" and download your very own copy of "Who's Afraid Of The Big Bad Bear. Chronicles of 2016, A Veritable Year Extraordinaire" (in PDF).

For all others who still haven't been convinced, eBook copies are for sale on Amazon and many other online channels. You'll have to visit a foreign Amazon website to also find the print book version.
 

All-Weather Model Portfolio

In partnership with Queensland based Vested Equities, FNArena manages an All-Weather Model Portfolio based upon my post-GFC research. The idea is to offer diversification away from banks and resources stocks which are so dominant in Australia, while also providing ongoing real time evidence into the validity of my research into All-Weather Performers.

This All-Weather Model Portfolio is available through Self-Managed Accounts (SMAs) on the Praemium platform. For more info: info@fnarena.com

Rudi On TV

This week my appearances on the Sky Business channel are scheduled as follows:

-Tuesday, 11.15am Skype-link to discuss broker calls
-Thursday, 12.00-2.00pm, co-host in the studio
-Friday, 11.15am Skype-link to discuss broker calls

Rudi On Tour

Your Editor has been invited to present at the Australian Shareholders Association's (ASA) 2017 Securing Your Investing Future Conference to be held at the Grand Hyatt Melbourne from 15-16 May.

The conference details – www.australianshareholders.com.au/conference-2017

Speaker information – www.australianshareholders.com.au/speakers

Program information – www.australianshareholders.com.au/program

Telephone: 1300 368 448

(This story was written on Monday 8th May, 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 the direct messaging system on the website).

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BONUS PUBLICATIONS FOR FNARENA SUBSCRIBERS

Paid subscribers to FNArena (6 and 12 mnths) 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.
– Who's Afraid Of The Big Bad Bear? eBook and Book (print) available through Amazon and other channels. Your chance to relive 2016, and become a wiser investor along the way.

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

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