Rudi's View | Jan 30 2020
This story features SUNCORP GROUP LIMITED, and other companies. For more info SHARE ANALYSIS: SUN
Dear time-poor reader: it's falling profits and coronavirus spreading versus cash from the sideline; plus is that a new Green Mega Trend on the horizon?
In this week's Weekly Insights:
-Retail Investors Might Be Key For Equities Bull Market
-Not King Coal
-Get More Out Of Your Subscription
Retail Investors Might Be Key For Equities Bull Market
By Rudi Filapek-Vandyck, Editor
The 2020 decade opened with a bang as, globally, investors started preparing for a recovery in growth later in the year on the back of ongoing loose policies from central banks and early indications of a bottom in the global slump.
Towards the end of last year, investor focus seemed to be on elevated valuations after what had been the best performance since 2009 for many an equity index. From the moment January began it quickly became obvious cash on the sidelines was burning a hole in fund managers' souls, and that cash was looking to be deployed sooner rather than later.
It's not always the Australian share market starts the new calendar year by rising more than 6% in less than three weeks – more than double the 3% return achieved during the prior six months. Admittedly, there is an element of catching up as December proved rather gloomy for the ASX, exacerbated by a large foreign seller during the final trading session for the year.
But here institutions and other investors had equally moved some of their funds into cash and defensive assets, away from the share market, which temporarily proved the correct decision, until the new year started with a big upswing. There is anecdotal evidence that some of the cash that deserted equities late last year has made a swift come back in January.
For good measure: not everybody is on board with the improved outlook for the global economy further into the current calendar year, while many an expert eye continues to be wary of today's share prices already reflecting lots of optimism and good news. The problem of elevated looking share price valuations was countered by expectations that market consensus for corporate profits will be proven too conservative, and thus valuations are not as high as they seem.
The irony in the Australian context is that bushfires and weather events inflicting damage and retailers struggling post Boxing Day 2019 continue to elicit profit warnings from listed companies already facing continuous challenges from a moribund domestic economy, a recovery in the local housing market notwithstanding.
The past few weeks have seen profit warnings from companies including Suncorp ((SUN)), Insurance Australia Group ((IAG)), QBE Insurance ((QBE)), AMA Group ((AMA)), Apollo Tourism & Leisure ((ATL)), Gentrack Group ((GTN)), nib Holdings ((NHF)), Medibank Private ((MPL)), Mosaic Brands ((MOZ)), Super Retail ((SUL)), Nufarm ((NUF)), Kogan ((KGN)), Cimic Group ((CIM)), Downer EDI ((DOW)), and Beacon Lighting ((BLX)).
At first glance, none of these warnings should have come as a major surprise. Bushfires and weather events lead to spikes in insurance claims. Extreme weather triggers changes in consumption, and affects tourism, outdoor sports and leisure, and the agricultural sector. Consumer spending is on the nose, and not just because of the bushfires. Engineers and project underwriters are risky businesses (see also: RCR Tomlinson and Forge Group, as well as Lendlease Group).
Analysts are already anticipating Qantas ((QAN)) will be next in providing guidance for fewer-than-anticipated international travelers, as well as Sydney Airport (((SYD)) in extension of the same theme. Note also: the benign response to the share price of QBE Insurance post warning possibly signals investors, in some cases, are willing to look beyond the immediate impact, at least for now.
In contrast, a handful of small caps have issued positive revisions to profit guidance and these share prices, understandably, have (mostly) shot the lights out in response. This small congregation of positive stand-outs thus far includes Polynovo ((PNV)), Bell Financial Group ((BFG)), Catapult Group ((CAT)), Objective Corp ((OCL)), EML Payments ((EML)), Data#3 ((DTL)), and K&S Corp ((KSC)).
Investors did not wait for any market updates to assume that reduced geopolitical tension and an improving global outlook was working to the benefit of iron ore producers such as Fortescue Metals ((FMG)), Mount Gibson ((MGX)), BHP Group ((BHP)), and Rio Tinto ((RIO)).
But now the sudden emergence, and spreading of the coronavirus from China has, temporarily at least, put a firm halt to that trend.
Looking beyond the events that have both stimulated and cooled down investor sentiment this January, the observation still stands that analysts' forecasts for corporate profits are still declining, as they were throughout 2019, and this means the trend of rising valuations when corporate profits are not keeping pace has continued into the new year.
Globally, there is a lively discussion going on whether traditional valuation methods still apply in a world that sees businesses and models transform at rapid pace. I can definitely back up some of the arguments, which is why I have not been as downbeat as many others on, say, CSL ((CSL)), Xero ((XRO)), and Goodman Group ((GMG)). But what about bricks & mortar retailers? Their landlords? The banks?
One of the lingering doubts among investors globally is that banks are making sizable investments into new technologies, but contrary to other sectors, there doesn't appear to be any tangible benefits coming from these investments. At least not in the short term. In Australia, banks might have seen the nadir in this down-cycle, but unless cash profits see a positive revival, they still won't be a fantastic investment beyond the occasional bounce.
Meanwhile, the prospect for further dividend cuts from the more vulnerable in the sector continues, with Bank of Queensland ((BOQ)) widely considered as not done yet when it comes to negatively adjusting the payout to shareholders in line with operational pressures and the need for significant investments.
It is against this background that investors will soon be bombarded with ASX-listed companies releasing performance reports for the six months ending in December. Given share prices tend to be high, even with a step-back from the all-time record because of coronavirus concerns, I'd suggest volatility is likely to spike yet again next month.
Given profit reports might be impacted short term by the factors mentioned above, investors will be keen to learn more about how the managers at the helm of companies see the future. Increasingly, this will include how companies can and are ready to prepare for climate and weather-releated events.
Don't underestimate the importance of the events this summer in Australia and elsewhere. It is more than likely they have changed the mindset of both business leaders and institutional investors, irrespective of the games played by politicians the world around.
See also further down "Not King Coal".
As per usual, FNArena will keep a detailed Monitor of the corporate results released in February as seen through the eyes of the analysts covering Australian companies. Our Corporate Results Monitor, which runs all-year, currently consists of a forward looking calendar, and little more, but it'll soon start filling up with updated reviews.
Note: paying subscribers (6 & 12 months) have access to past reports going back to August 2013.
Retail Investors Are Net Sellers Of Equities
One of the big mysteries behind the scenes of the current bull market in equities is the dramatic fall in investor participation, a fact I have highlighted on more than one occasion in recent years. The old adage was always that bull markets, in order to remain sustainable, required more buyers than sellers, but this market has thrown out the traditional blueprint, and then some.
For three successive years now, investors have been net sellers of US equities, yet share prices have continued to rally higher.
A recent in-depth analysis by UBS strategists Keith Parker and Sean Simonds estimates total selling in US stocks is close to the selling that occurred at the height of the financial crisis ten years ago.
To put some concrete numbers to that statement, on UBS's calculations net selling since March 2017 had by December last year accumulated to -US$690bn, which is vastly larger than the -US$475bn that occurred during the global downturn of 2015-2016 and the -US$414bn that was withdrawn (net) during the global financial crisis of 2007-2009.
Calculated as percentages of the average market cap, however, net selling in 2017-19 amounts to -2.7% which compares to -2.9% during the GFC.
Another important observation made by the UBS strategists is that retail investors are mostly doing the selling. Apparently, most of the money that flows out of equities moves into cash.
We don't have any comparable data or analysis for Australian equities, at least not that I am aware of, but it seems but a fair assumption, I think, that some of that money has found its way back into equities, both here and overseas.
Are we experiencing the ultimate capitulation that ensures this bull market has at least one more leg upwards left in it? Your guess is worth as much as mine.
But we are going to find out exactly how much life is left in this bull market this year, of that I am confident.
Today's market update marks my first Weekly Insights story for calendar year 2020. Subscribers should note last week I posted two updates on stockbrokers' conviction calls. All my writings can be accessed via the Rudi's Views section on the website.
Next week Weekly Insights will bring you a detailed preview of the upcoming February reporting season.
Weekly Insights continues below.
Before we move on to more things financial…
Our democracies are in danger. I know this sounds extremely hyperbolic, but it is not.
Since the middle of the twentieth century we have all become accustomed to the fact societies and political systems have become more open, accessible and accountable. In particular in the West, and in particular after the iron curtain collapsed in the late eighties.
Today we take too many things for granted. We assume bad history won't repeat. And just like the proverbial frog in gradually heating up water, we don't notice or even understand how the parliamentary system, the role of government, and its institutions are being undermined and eroded away. Read The Fifth Risk by Michael Lewis. Read Fascism, A Warning by Madeleine Albright.
There are, of course, many more authors, books and publications that can be read, but the message remains the same: undemocratic forces are on the rise, and they have the momentum on their side. Increasing limitations placed on free and independent media, of which FNArena is a proud member, is but one factor that is easy to identify.
Awareness is the first step to defending our democracies, who have never been flawless, but nevertheless far superior to any of the alternatives history shows us.
Not King Coal
Forget about your political beliefs and alliances, as Editor of an online media company specialised in finance and investing, it is my task to inform you about emerging new trends that will have an impact on asset prices.
In the wake of unprecedented bushfires in Australia and global investment manager Blackrock announcing it considers thermal coal exposure a No-Go for the future, the focus among investors is increasingly shifting away from "dirty" coal; the kind used by utilities including AGL Energy and Origin Energy to supply power to Australian businesses and households.
Of course, thermal coal will remain in use for decades to come across the globe, but that won't stop the world's institutional investors selling their exposure and avoid getting involved with the sector ever again. Which is what is happening today.
How this scenario exactly is going to play out is anybody's guess, but I'd wager both Rio Tinto ((RIO)) and BHP Group ((BHP)) did not sell their thermal coal operations for no reason. Plus BHP-offshoot South32 ((S32)) is now also in the process of divesting its exposure in South Africa.
Maybe the share market is not the first place to focus on. Last year Peabody Energy, a US-based company that advertises itself as the largest private-sector coal company in the world, was forced to pull an US$800m junk bond raising which sent shivers through the global corporate bond market.
Earlier this month, one of the local experts in corporate credit in Australia sent a written warning to his clientele: institutions are selling their corporate bonds. They are of the intention to never return. It is but logical to expect a profound impact on liquidity and on the traded value of these corporate bonds.
The warning stated that while the companies behind such bonds might still look solid, from a fundamental credit analysis perspective, it is but plausible such bonds will start trading at a discount to intrinsic value, and might not recover from it. Moreover, when refinancing comes along, there might not be enough appetite around to provide ongoing financial support.
In other words: the corporate credit market is shifting into Risk Off mode for thermal coal exposure. No more appetite. Investors better take note.
Below is a recent chart showing trends for coal and renewables as the key source for electricity generation in the US. Sure, coal is still more important than all renewables combined, but is that the real message here?
In today's share market share prices for producers including Coronado Global Resources ((CRN)), Whitehaven Coal ((WHC)) and New Hope Corp ((NHC)) are low because the price of the commodity has fallen sharply, and there will always be a class of investor who remains interested as long as the share price looks cheap enough, but here too new trends are building momentum. Green energy and sustainable investing are two of them.
Don't just take my word for it. Last week Saxo Bank released a fresh outlook assessment for global equity markets with the premise being the world is about to experience a seismic shift on the back of disruption to and shortages of food, clean water and clean air.
Both governments and their citizens, including businesses and investors, will increasingly direct their focus towards the realisation the current model is based on "unsustainable economic activity", in the words of Saxo Bank, who now predicts rising climate awareness will drive a "green mega trend" in global equities.
Since late 2018, FNArena has been running a dedicated news section to ESG matters on its website. Check it out at ESG Focus: https://www.fnarena.com/index.php/financial-news/daily-financial-news/category/esg-focus/
There is a lot more to digest in the following two paragraphs from Saxo Bank's release than initially meets the eye:
"Governments will increase investments and subsidies for "green" industries, starting a new mega trend in equity markets. We believe that these green stocks could, over time, become some of the world’s most valuable companies — even eclipsing the current technology monopolies as regulation accelerates during the coming decade. Investors should consider tilting their portfolios towards green stocks so they don’t miss this long-term opportunity.
"Meanwhile, central banks and governments have decided to throw out the old playbook of not adding stimulus in the late stage of an expansion in which the labour market is tight. Both monetary and fiscal policy is readily being deployed in 2020 across all the world’s largest economies. This is not the time to be underweight equities."
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Message to all fresh and existing subscribers: last year already we added "Guide To The Website" to the black ribbon that runs across the top of the website. You can always ask the team questions via the messaging system on the website, but a visit here might explain more than you are looking for:
(This story was written on Tuesday 28th January 2020. 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).
(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: firstname.lastname@example.org or via the direct messaging system on the website).
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For more info SHARE ANALYSIS: AMA - AMA GROUP LIMITED
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