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The Correction We Had To Have

rudi-views
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 | Feb 07 2018

In this week's Weekly Insights (published in two separate parts):

-Extra Service
-The Correction We Had To Have

-RBA: Waiting For Godot?
Conviction Calls: Citi, Morgans, Ord Minnett, Morgan Stanley, UBS, Canaccord Genuity
-February 2018 Reporting Season Preview

[Note the non-highlighted items appear in part two on the website on Thursday]

By Rudi Filapek-Vandyck, Editor FNArena

Extra Service

FNArena is preparing for the launch the new website-based version of our very own Australian corporate Reporting Season Monitor. The newest addition to our website will be a permanent, dedicated section and, no doubt, soon a go-to destination for many among you looking for fresh updates and insights once Australian companies release their financial performance and profit outlook guidance.

The Reporting Season Monitor will go 'live' this week, so keep an eye on the drop down menu starting from Analysis & Data and your inbox on the website.

I am well and truly excited about this new addition. Once launched, FNArena will resume publishing daily updates through a fresh news story on the day, as we've done since August 2013. Stay tuned, not far off now…

The Correction We Had To Have

One stockbroker probably summarised it best when he stated recently after several months of holding out for that elusive market correction, a number of his clients had now started to worry weakness in US equities might be heralding something more than just a pullback in a long term bull market.

FNArena too has been receiving a number of enquiries since the beginning of the new calendar year.

Let's start with why 'risk off' is not a bad occurrence in the short term, and why is it happening anyway? One look at price charts for US equity indices should suffice. Or as one savvy commentator elsewhere put it: this bull market is nine years old and for most of that time risk assets have behaved in quite modest fashion, but all that changed over the past months; now markets have become overheated, exuberant and (a little) crazy.

January alone saw US equities add 7%. Excluding dividends, that's equivalent to the full year return of Australian equities over the full calendar year 2017. Enough said.

The big unknown is how far US treasuries might retreat, pushing up bond yields worldwide. The relatively sharp movement (up in yield, down in prices) since the start of the year is unsettling quite a number of investors and that is understandable, given the importance of bonds for valuing equities, not to mention their signalling power for central bankers, FX markets, commercial banks, and pretty much everything else.

Bond markets carry the overall image of wise old men who fret about important things only, leaving the small stuff to the headless chooks in FX and equity markets. But short term bond prices are just as susceptible to technical trading and momentum strategies as are other assets. Right now the trend has gone through all sorts of technical resistance levels, and into territories that haven't been seen in a long while.

Can bond prices overshoot to the downside? You bet they can.

One factor that has been under-reported, I note, is the incredibly bad timing of the economic stimulus achieved by the Trump administration. The late John Maynard Keynes has been rotating in his grave for quite a while now. According to general accepted Keynesian rules, governments should not be increasing debt and deficits when all is running well inside their economy, but Trump is promising more US government debt (through more US bonds) at a time when central banks are looking the other way, while actively spurring on FX traders to dump the US dollar.

Mr Big Mac Twitter-a-lot has been widely credited with the ability to extend the current bull market by an additional two years or so, but could the opposite happen with Trump policies killing off the bull market sooner than anticipated? You bet.

No need to worry just yet. Shorter term, most market participants will see this month's retreat as a buying opportunity, though it is the US bond market that sets the rules, the playing field and the goal posts. It is the referee overseeing all coaches, players and cheerleaders.

Mid-to-longer term, it will be interesting to observe exactly how this year's transition might unfold. Only one thing is 100% certain: Goldilocks is dead. Low volatility, alongside a rising tide for risk assets, against a background of growing economies, growing corporate profits, with no inflation, highly accommodative central bank policies and no geopolitical fault lines of any substance; that scenario was so 2017…

One other factor to keep on everybody's watch list is the direction for the US dollar. Trashing the greenback can only last for so long, and it had been one of the key supporting elements underneath firm rallies for US equities, precious metals, emerging markets, crude oil and industrial commodities. Any reversal into the opposite direction is doomed to hurt those rallies.

Conviction Calls: Citi, Morgans, Ord Minnett, Morgan Stanley, UBS, Canaccord Genuity

Small cap analysts at Citi have used this week's preview into the upcoming February reporting season to highlight they have two conviction views when it comes to small cap stocks under coverage.

Conviction number one is that independent data centre operator NextDC ((NXT)) remains destined for much better things. Citi's Conviction Buy rating is supported by a price target for the twelve months ahead of $7.02; more than 22% above the share price prior to the US inspired sell off on Monday.

The other conviction view is that valuation for high tech market darling WiseTech Global ((WTC)) simply cannot be justified, hence the Conviction Sell alongside a price target of $10.04, well below where the shares are trading.

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The list of High Conviction calls at stockbroker Morgans has undergone three changes. On one hand, Corporate Travel Management ((CTD)) has been added, while otherwise Motorcycle Holdings ((MTO)) and Aventus Retail Property Fund ((AVN)) are no longer part of the selection.

Share prices for all three have been under pressure over the months past, so the latter two cases implicitly reveals a change of heart. South African retailer in strife Steinhoff is Aventus' largest tenant in Australia.

Other stocks on Morgans' High Conviction list remain ResMed ((RMD)), Link Administration ((LNK)), Westpac ((WBC)), Oil Search ((OSH)), PWR Holdings ((PWH)), and Senex Energy ((SXY)).

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No change at Ord Minnett where small cap analysts retain Huon Aquaculture ((HUO)) as their Top Pick and Collection House ((CLH)) as their conviction sell.

One of the problems for Collection House, point out the analysts, is that balance sheet gearing remains high at some 40% and this limits the company's ability to bid on potential opportunities.

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Small cap specialists at UBS prefer the following favourites: Adairs ((ADH)), AMA Group ((AMA)), Appen ((APX)), Autosports Group ((ASG)), Bapcor ((BAP)), Bingo Industries ((BIN)), Eclipx Group ((ECX)), Premier Investments ((PMV)), NextDC and Webjet ((WEB)).

Only two names are considered Key Sells; Ardent Leisure ((AAD)) and InvoCare ((IVC)).

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Morgan Stanley continues to feel comfortable on the bearish side of year-out projections for Australian equities and the Australian economy. AUDUSD at 67c by late 2018 and the RBA on hold until mid-2019 are key ingredients of the in-house forecasts, as is the ASX200 at 5800 by year-end.

In accordance with these forecasts, Morgan Stanley's most recent update on projections for "Australia in transition" has identified five opportunities for share market investors: IDP Education ((IEL)), Cochlear ((COH)), Boral ((BLD)), Nufarm ((NUF)) and NextDC.

In earlier updates, the analysts already had identified Focus Ideas including Goodman Group ((GMG)), Treasury Wine Estates ((TWE)), Sonic Healthcare ((SHL)), Lend Lease ((LLC)), Domino's Pizza ((DMP)), Aveo Group ((AOG)), and Virtus Health ((VRT)).

Earlier Focus Ideas that have now been removed: Vocus Group ((VOC)), Aconex ((ACX)), and Mantra Group ((MTR)).

Morgan Stanley also initiated coverage on three small cap companies that have the scope to "disrupt their industries and deliver significant upside", these are 3P Learning ((3PL)), Elmo Software ((ELO)) and Nearmap ((NEA)).

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More Conviction Ideas from small cap specialists at Canaccord Genuity where the Australia Focus List consists of Catapult ((CAT)), CML Group ((CGR)), Comet Ridge ((COI)), Dacian Gold ((DCN)), Galaxy Resources ((GXY)), Impedimed ((IPD)), Kogan ((KGN)), Macquarie Telecom ((MAQ)), Orocobre ((ORE)), Perseus Mining ((PRU)), Pioner Credit ((PNC)), Sino Gas & Energy ((SEH)), and Speedcast International ((SDA)).

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Whereas Morgan Stanley (see higher up) remains bearish on Australia, share market strategists at Citi have become more positive given strong momentum in the global economy. Their year-end target for the ASX200 has lifted to 6600 from 6400 previously.

Citi remains positive on resources stocks, but also still wary of the banks and yield sensitive stocks. What stands out most, however, is the strategists positive stance on large cap stocks which are believed ready to make a come-back this year and make up for some of the relative underperformance post 2012.

Within this context, Citi in particular likes Woolworths ((WOW)), Telstra ((TLS)), QBE Insurance ((QBE)) and Lend Lease.

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, Trading Day Live, noon-2pm
-Friday, 11.15am Skype-link to discuss broker calls

Rudi On Tour

-Presentations to ASA members and guests Gold Coast and Brisbane (2x), in June
-Presentation to ASA members and guests Wollongong, in September

(This story was written on Monday 5th February and Tuesday 6th February, 2018. This first part was published on the Monday in the form of an email to paying subscribers at FNArena, and will be published again on Wednesday as a story on the website. Part two shall be published on Thursday).

(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.
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CHARTS

3PL AAD ACX ADH AMA AOG APX ASG AVN BAP BIN BLD CAT CGR CLH COH COI CTD DCN DMP ECX ELO GMG GXY HUO IEL IPD IVC KGN LLC LNK MAQ MTO NEA NUF NXT ORE OSH PMV PNC PRU PWH QBE RMD SDA SEH SHL SXY TLS TWE VOC VRT WBC WEB WOW WTC