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Market Rotation? It’s Complicated

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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 07 2019

Dear time-poor reader: why is the Value rotation not working so well in Australia? Plus Conviction Calls and the Fortescue mystery solved.

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

-Market Rotation? It's Complicated
Conviction Calls
Focus On Quality Yield
Fortescue Is No Mystery
Tickets to Conference on Agricultural and Veterinary Biotechnology
-Rudi On Tour

[The non-highlighted items will appear in Part Two on Friday]

Market rotation? It's Complicated

By Rudi Filapek-Vandyck, Editor FNArena

Global financial markets have priced out worse case scenarios for the world in 2020 and there are quite a number of investment experts out there who believe we might be near a turning point in terms of global growth and investor sentiment.

In simple terms this becomes: no recession, and potentially a new acceleration in growth instead.

Those who pay close attention would have noticed a few differences. The USD has weakened, bond yields have reset at a less subdued level and Emerging Market equities have, for the second time in 2019 after January, managed to outperform developed markets equities in October.

In the US, share market indices have surged to (or near) a fresh all-time high while FAANG stocks are not at all-time highs.

This can only mean three things: rotation, rotation, and rotation.

"Value" portfolios have finally enjoyed a good month of outperformance. In Australia, it has to be noted, beaten down disappointers including Amaysim Australia, CYBG, Challenger and BlueScope Steel have all sprung to life, mostly on no specific news, while a number of prior outperformers have witnessed the draw back from the switch in funds flows.

Smaller cap technology high-flyers in particular have felt the sudden impact from the switch in market sentiment. Apart from the likes of Altium, Appen, WiseTech Global and Afterpay Touch, October has not been kind to names including Pro Medicus, Jumbo Interactive and a queue of smaller cap gold producers.

But here is where things become a lot more complicated. Whereas share markets globally rose over the month, the Australian share market trod water and ultimately ended with a small loss (-0.3%). Locally, the best performing sector was Healthcare, which is very much the antithesis for a rotation into Value on the back of an improving growth outlook globally.


The worst performing sector locally were the banks, which retreated more than -4% in October, performing even worse than the local technology sector, which despite being the target of domestic and international shorters, only retreated by -3.9%. Materials and Resources equally ended October on a negative note.

So what exactly is (not) happening here?

I think what we are experiencing is more evidence of deteriorating domestic economic fundamentals, exacerbated by a stronger AUD, alongside further evidence there is no major positive impact on consumer spending from a recovery in house prices and the Morrison government's tax cuts.

Then there's also the drought. The result is that laggard stocks in the Australian share market -"Value" by any other definition- continue to punish investors who jumped on board because of macro considerations, while ignoring the micro risks that are still very much attached to these companies.

As a result, Australia is not fully participating in the portfolio rotation taking place elsewhere. Instead, companies such as Costa Group are still issuing profit warnings and raising fresh capital while banks including Westpac are cutting their dividend and equally raising fresh capital.

The end result is that healthcare -carried by CSL, ResMed and Cochlear- and Industrials, which includes bond proxies such as Transurban and Sydney Airport, have been the local outperformers in October. And it's not like these stocks have stood still since January (my attempt to inject some sarcasm).

With key portfolio exposure CSL rallying to a new all-time high during the month while the company was celebrating its 25th anniversary as an ASX-listed entity, the FNArena/Vested Equities All-Weather Model Porfolio gained 1.31% in October for a total gain of 5.71% over the first four months of FY20.

In comparison, the ASX200 Accumulation Index posted a negative -0.35% in October for a total gain (including dividends) of 2% thus far in FY20.

A special mention goes out to Bapcor ((BAP)), which is equally seen as a core portfolio holding. The company's trading update last week once again confirmed why I regard this company a potential true blue All-Weather Performer. In the midst of industry headwinds and intense competition, this company can still guide towards modest growth.

The current C-suite at Bank of Queensland, ANZ Bank and Westpac would sacrifice their left arm if only they were able to do the same.

Investors should note FNArena monitors Australian corporate results the whole year around: https://www.fnarena.com/index.php/reporting_season/

Conviction Calls

Stockbroker Morgans has updated its Best Ideas, essentially those stocks believed to offer the highest risk-adjusted returns over the next twelve months, underpinned by an above-average level of confidence.

It's quite the list, so get set.

Best Ideas among large cap stocks:

-Telstra ((TLS)), Wesfarmers ((WES)), Treasury Wine Estates ((TWE)), Woolworths ((WOW)), Woodside Petroleum ((WPL)), Oil Search ((OSH)), Westpac ((WBC)) -yes, you read that correctly: Westpac remains the stockbroker's most preferred bank exposure, with conviction- Sonic Healthcare ((SHL)), Sydney Airport ((SYD)), and APA Group ((APA)).

Best Ideas among mid and small-cap stocks:

-ResMed ((RMD)), Cleanaway Waste Management ((CWY)), Link Administration ((LNK)), Orora ((ORA)), OZ Minerals ((OZL)), Frontier Digital Ventures ((FDV)), PWR Holdings ((PWH)), Lovisa Holdings ((LOV)), AP Eagers ((APE)), Cooper Energy ((COE)), Kina Securities ((KSL)), Generation Development ((GDG)), Pro Medicus ((PME)), Over The Wire ((OTW)), Iress Market Technology ((IRE)), Orocobre ((ORE)), Red 5 ((RED)), Aventus Group ((AVN)), and APN Convenience Retail REIT ((AQR)).

Note also US-originated Jefferies Australia, which has started to ramp up activities recently, this week initiated coverage on Macquarie Group ((MQG)) with a Buy rating and a maiden price target of $164. Behind these snippets hides Brian Johnson, previously at CLSA, and at JPMorgan before that.

Fortescue Is No Mystery

FNArena received multiple questions about why the Fortescue Metals ((FMG)) share price has remained unable to move decisively higher. Here's an attempt to "solve the mystery".

As a leveraged exposure to the price of iron ore, Fortescue Metals' outlook comes down to one key question: what will the price of lower quality iron ore be next year and beyond?

As is easily established through Stock Analysis on the website, the analyst community is currently highly divided on the issue.

Ord Minnett/JP Morgan and Macquarie believe a stronger-for-longer scenario is definitely possible and on this basis they have set price targets that are double digit percentage above where the share price sits in early November.

Most analysts, however, don't believe such a scenario is likely and they foresee lower prices ahead instead. On this basis, fair value for the share price might be near $8.50 or even $7.50, which implies double digit percentage losses from the current share price level.

Take your pick.

Another way of looking at it is via forecast dividend yields. Current consensus estimates put forward yield (FY20) at circa 15.5% (including current FX translation from USD) but for the following year that percentage tumbles to 6.5%. The latter is still attractive, but investors should note the numbers behind the average once again are heavily polarised, so if price momentum does go south, don't consider the 6% yield set in stone.

What does a market do that doesn't know the answer to the question? It puts the Fortescue Metals share price somewhere in the middle of the two scenarios, and waits for more clarity to arrive.

Tickets to Conference on Agricultural and Veterinary Biotechnology

Pitt Street Research, whose work can also be found on the FNArena website: https://www.fnarena.com/index.php/pitt-street-research/, is organising its inaugural Life Sciences Conference with the focus on Agricultural and Veterinary Biotechnology.

The Conference takes place in Sydney's CBD on November 28th and runs from 8.45am till 1pm on the day. ASX-listed companies presenting include PainCheck, Anatara Lifesciences, Abundant Produce, PharmAust ltd, CannPal, EM Vision and Osteopore.

FNArena has ten tickets available for investors who'd like to attend this event at no cost; paying subscribers receive this opportunity first. If interested, send an email to info@fnarena.com

Rudi On Tour In 2020:

-ASA Hunter Region, near Newcastle, May 25

(This story was written on Monday 4th November 2019. It was published on the day in the form of an email to paying subscribers, and again on Thursday as a story on the website. Part Two will follow on the website on Friday).

(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 $440 (incl GST) for twelve months or $245 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

(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.) 

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CHARTS

APA APE AQR AVN BAP COE CWY FDV FMG GDG IRE KSL LNK LOV MQG ORA ORE OSH OTW OZL PME PWH RED RMD SHL SYD TLS TWE WBC WES WOW WPL