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Rudi’s View: Plenty Of Clouds, Diverging Scenarios

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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 | Sep 17 2020

This story features AFTERPAY LIMITED, and other companies. For more info SHARE ANALYSIS: APT

In this week’s Weekly Insights:

-Plenty Of Clouds, Diverging Scenarios
-Conviction Calls

Plenty Of Clouds, Diverging Scenarios

By Rudi Filapek-Vandyck, Editor FNArena

According to at least one experienced technical market analyst, global equities, including in Australia, are now due for a consolidation period that potentially can last multiple months.

Such a prediction should hardly come as a surprise. The recovery off the late-March low has been swift and strong – and those terms don’t really do justice to what actually has occurred up until late August.

As is always the case, a lot of attention has been drawn to the apparent excesses along the way, with share prices in Apple and Tesla moving parabolically upwards on announcements of a stock split, while others have been doubling in price (or more) in what seemed like an awful short time to see that happening.

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Here in Australia, market volume has shifted towards stocks like Afterpay ((APT)), Zip Co ((Z1P)) and Mesoblast ((MSB)) -on some days responsible for the largest volumes- and a recent attempt by Morgan Stanley to identify what is happening behind the curtains is firmly pointing in the direction of re-born retail investors and traders.

I write “re-born” because anecdotal evidence suggests many trading accounts that had been dormant for a while have been re-activated during the recovery/upswing this year, but in reality, many of the additional inflows have come from freshly-minted, new market participants.

In the US, these people are being referred to as the “RobinHooders”, after a no-fee, popular trading app that has seen explosive growth over the six months past.

Here in Australia, SelfWealth ((SWF)) has been one of the major beneficiaries of a similar phenomenon, but let’s not discount CommSec, NABtrading and other platforms, as well as newsletters, blogs and financial data and information services, including FNArena.

To put the retail market-impact into perspective, at least here in Australia, on Morgan Stanley’s analysis market shares as far as daily volumes are concerned had remained fairly stable pre-covid between Institutional, Retail Advice, Retail Online, Clearing and Other/Miscellaneous.

But the past three months show a significant increase in volumes coming from retail online, rising by 50%, to push up total market share to 10% of volume in July, up from 6.7% in January.

This may not seem like much, but by nature financial markets are dominated by short-term money flows, not by opinions, expertise, fundamental research or other forms of analysis.

So, if one large group adopts one scenario and acts accordingly, and finds other groups to follow in its footsteps, then that scenario becomes “the trend”, at least for the time being.

2020 might have been the first time when cashed-up, bored mums and dads closed in at home decided to take a punt on shares -lower prices galore, must be more attractive now- and then forced the professionals -worried about losing mandates, if not their job- to join in and manufacture the quickest recovery in modern memory.

One valid point suggested by Morgan Stanley’s research is that any impact from these fearless mums and dads (and many youngins) would logically be highest for less liquid, smaller cap stocks – and when institutions are sitting on their hands, like in April.

The Morgan Stanley research suggests these additional inflows have predominantly been used to execute Buy-orders. And what have these new buyers been buying? Popular themes, including EVs and BNPL, and popular household names, such as Qantas, Telstra, Flight Centre, even Oil Search and Myer.

As such, market positioning is not solely in strongly rising, high-flying market darlings, but equally so in beaten-down share prices that should benefit from the post-pandemic economic recovery.

Trading activity data from eToro revealed many of the new market participants have equally directed their attention to the US with Nio Inc, Tesla and Amazon the three most traded stocks on the platform in August.

Trading volume in Apple shares on eToro rose by 149% month-on-month in August, while for Nvidia the increase was 135%.

Suffice to say, the phenomenon over here has direct links to some of the truly mind boggling, parabolic momentum moves in the US, which now leaves the Australian share market vulnerable to a correction to the downside.

Pure logic tells us when stocks go crazy and rally into the atmosphere in the US, while Australian shares do not follow suit, the Australian share market does not have to sell-off in equal fashion when those US shares deflate and come back to earth, but that’s simply not how market sentiment works.

If the US sneezes, the rest of the world gets covid-19 – without blinking.

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Further complicating matters is that when one trend stops, traders will look for other trends to jump on and make money from.

In the current context of a heavily polarised market, with extreme elements to it, this almost by definition means money will flow into the so-called “value” part of the market where sectors including banks and energy stocks have seriously lagged during this year’s bull market.

Such a move will be welcomed by many a value investor, and Australian institutions are in large majority value investors (which worked just fine pre-May 2015), meaning they own plenty of Woodside Petroleum, Telstra, QBE Insurance and the likes, and potentially none of Afterpay, Mesoblast, Objective Corp ((OCL)), WiseTech Global ((WTC)) and others that have performed a lot better in 2020.

Some of such portfolios have outperformed in recent weeks while the super-hot segment of the US market encountered a well-overdue cooling down, but is it more than just a temporary blip?

On my observation, any of the attempts to portfolio-rotate out of Growth (healthcare, tech & other winners) and into Value (banks, cyclicals, laggards and losers) post 2014 has never lasted more than five months, with late 2016 and early 2019 the longest lasting market momentum switches.

Back in late 2016, the big switch quickly turned violent in either direction in response to a fierce trend that firmly kept momentum with healthcare stocks and defensives for much longer than most market experts thought possible.

In early 2019, the normal pattern followed after the late 2018 recession scare that saw banks, resources and other cyclicals being pummeled despite their lagging performances prior, but then outperform on solid recovery prospects.

The difference between these two big momentum switches is the first scenario saw stocks like CSL ((CSL)), Aristocrat Leisure ((ALL)) and Altium ((ALU)) on average lose -20% in quite the short timeframe.

The 2019 version saw healthcare, technology, disruptors and other strong growers still advancing in share price, but at a slower pace than banks, miners, energy stocks, et cetera.

The key difference between these two scenarios is that back in 2016, a large part of the international investment community genuinely believed the four decades' long bond market trend of ever lower yields had ended and inflation was about to make a decisive come-back.

The second time around, few experts were harnessing such thoughts and diverging momentum was simply based on the question of who benefits most from the narrow escape from economic recession.

For investors, it seems crucial to keep both scenarios in mind as the immediate outcome for the quality and strong growing companies on the ASX looks a lot different.

Ultimately, it has to be noted that while share prices for the likes of ANZ Bank, Santos, IGO and the likes can experience significant upside during these portfolio/momentum switches, it is the likes of CSL, ResMed ((RMD)) and Appen ((APX)) that have subsequently moved on to new highs.

(Don’t look at share prices for Telstra, banks other than CommBank ((CBA)), retail landlords, energy producers and the likes as it will hurt your eyes – literally.)

A lot is being made of the recent policy change by the Federal Reserve in that US inflation is now allowed to run well past the 2%, if only to make up for the fact it hasn’t been consistently near that target since the GFC (and never above it).

Never say never, but I think too many old hands are putting hope in front of reality. I do get the “never say never” part, but I also note the inflation-is-coming crowd has been consistently wrong ever since Bernanke announced QE1, and that was in late 2008.

Most economists who are not affiliated with your typical value-oriented asset manager do not see price inflation on the horizon. Full stop.

This makes me think that if, somehow, we are on the cusp of yet another switch in momentum favouring the market laggards, it’ll most likely last for a limited time only, or copy the 2019 blueprint in which there is no mass-selling out of the winners.

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There is one alternative scenario which, one has to assume, is now increasingly playing on investors’ mind: what if the world does develop an effective vaccine against covid-19?

This, of course, would give both traders and investors the perfect excuse to start portfolio-rotating through abandoning the winners -those benefiting from the virus and related lockdowns- and jumping on those companies who have been major victims in 2020.

Even though it won’t be as clear cut as the return of inflation with subsequent higher bond yields, a world looking forward to a return to pre-covid conditions, even if this still includes lasting changes, will largely benefit the same companies, with the addition of airports, travel agents, hospitality, leisure, education platforms and tourism operators.

Equity strategists at Macquarie, looking forward to such a renewed market focus, have already selected their twelve Best Ideas to buy in anticipation of the covid-free scenario: BlueScope Steel ((BSL)), Fortescue Metals ((FMG)), Lendlease ((LLC)), Ramsay Health Care ((RHC)), Star Entertainment Group ((SGR)), Woolworths ((WOW)), and Worley ((WOR)).

Outside of the ASX100, Macquarie’s Best Ideas now also include Appen ((APX)), Austal ((ASB)), Australian Finance Group ((AFG)), SeaLink Travel Group ((SLK)), and United Malt Group ((UMG)).

As inferred from Macquarie’s strategy update, the new portfolio barbell strategy is to combine some of the quality and structural growth stories on the ASX (and elsewhere) with some of the beneficiaries from re-opening economies and a potential covid vaccine.

Never say never in finance, but I think a more inclusive bull market might also keep that Big Correction MIA for much longer.

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Some of the models and indicators used internally at Citi suggest the time is ripe for a come-back of “value” stocks on equity markets.

Maybe the secret ingredient that will put cheaper stocks back in favour might turn out the upcoming presidential election in the US.

Not necessarily whether Biden (assumed likley winner by Wall Street) or Trump might win, but whether the election will morph into a drawn-out process with no certain outcome, like what happened in 2000 when neither Bush nor Gore was able to claim a clear victory on election day.

Citi strategists last week reminded investors back in 2000 the S&P500 sank by some -11% in one month on election uncertainty.

This time America is dealing with a much more polarised citizenry, and a president who might not be willing to concede anything other than his own victory.

Apart from uncertainty about any vaccines and the November 3 election, Citi also reports institutional investors in the US are very much focused on whether US parliament can agree on some kind of stimulus program to assist covid-19 victims with keeping their head above water.

Citi itself thinks no such deal is forthcoming before the election.

It is well-possible that in the face of so much uncertainty, US investors decide to secure a portion of their profits by selling out of this year’s winners, which, from a general sentiment and short-term technical perspective, can potentially become a downward-oriented process in itself.

This might provide one of the crucial answers everybody is looking for in 2020: what are the newly joined participants going to do when #stonks are no longer simply trending upwards?

Beyond the immediate outlook, I continue to believe prospects of economic recovery on top of tectonic changes, which feed into stronger-growth-for-longer for corporate beneficiaries, will keep the prospects for equities positive on a medium to longer term timeline.

Of course, there will be (more) excess & exuberance along the way. Every bull market creates excesses. That’s simply the price we pay for being humans.

In addition, if the global recovery truly finds traction, the US dollar is likely to weaken which strengthens the AUD, creating an additional headwind for offshore earners on the ASX.

Conviction Calls

And in the end, it still was a tough call to make.

Whereas Goldman Sachs is stoically holding on to its bullish call on Telstra ((TLS)), the managers of Model Portfolios at stockbroker Morgans have finally bitten the bullet and sold all shares in the ever so disappointing telco.

“Tough call”, reads their latest update, “but we see better relative opportunities [elsewhere]".

Morgans’ Balanced Model Portfolio has switched into Coles ((COL)) and added extra shares in APA Group ((APA)).

There is no Telstra exposure to sell for the Growth Model Portfolio which has topped up on BHP Group ((BHP)), Lovisa Holdings ((LOV)) and ALS Ltd ((ALQ)), while also adding Magellan Financial Group ((MFG)), a2 Milk ((A2M)), and Breville Group ((BRG)).

Morgans’ Best Ideas contains no less than 42 companies, of which the following eight were added during and post the August reporting season: Sydney Airport ((SYD)), NextDC ((NXT)), Incitec Pivot ((IPL)), Coca-Cola Amatil ((CCL)), Super Retail Group ((SUL)), Breville Group, Kina Securities ((KSL)) and Alliance Aviation Services ((AQZ)).

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Baillieu chief investment officer, Malcolm Wood, sees the ASX200 trending towards 6750 in the year ahead.

Among the positive factors cited by Wood are the fact commodity prices are slightly stronger than pre-covid (on average) with a massive windfall awaiting the Australian economy and government from stronger-than-anticipated iron ore prices; the covid-19 super early release scheme is projected to grow to -$42bn, equal to 2.1% of Australia’s GDP, on top of material stimulus by the RBA and the Australian government, with more to come.

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Market strategists at Wilsons have equally started looking forward towards beneficiaries of re-opening economies.

Because of many ongoing uncertainties, Wilsons is advocating investors adopt a diversified approach, opting for both domestic and global business models, spread over multiple exposures, but still within a well-diversified portfolio overall.

Wilsons has lined up 25 candidates investors can choose from:

-in the energy sector:

Oil Search ((OSH)), Origin Energy ((ORG)), Santos, and Woodside Petroleum

-among financials:

ANZ Bank ((ANZ)), Bendigo & Adelaide Bank ((BEN)), Challenger ((CGF)), National Australia Bank ((NAB)), and Westpac ((WBC))

-Metals & Mining:

Alumina Ltd ((AWC))

-Real estate:

Dexus Property ((DXS)), GPT Group ((GPT)), Lendlease, Mirvac Group ((MGR)), Scentre Group ((SCG)), Vicinity Centres ((VCX))

-Resource Services:

Worley ((WOR))

-Tourism and Entertainment:

Aristocrat Leisure, Crown Resorts ((CWN)), Flight Centre, Qantas ((QAN)), Star Entertainment Group

-Transport infrastructure:

Atlas Arteria Group ((ALX)), Sydney Airport

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Market analysts at Morningstar have equally bitten the bullet and removed Telstra from their Best Stock Ideas, while adding Challenger and Flight Centre.

Stocks that remain on the list: AdBri ((ABC)), Avita Therapeutics ((AVH)), Bingo Industries ((BIN)), Cimic Group ((CIM)), Computershare ((CPU)), G8 Education ((GEM)), Link Administration ((LNK)), Southern Cross Media ((SXL)), Viva Energy Group ((VEA)), Westpac, Whitehaven Coal ((WHC)), and Woodside Petroleum.

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Tech analysts at Bell Potter have updated their sector preferences with the revamped Top Three sector picks now consisting of (in order of preference) Uniti Group ((UWL)), TechnologyOne ((TNE)), and Citadel Group ((CGL)).

The latter has since received a take-over offer; no doubt seen as vindicating the team’s view the shares were too cheaply priced.

Bell Potter also has two Conviction Sells: WiseTech Global ((WTC)) and Altium ((ALU)).

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For more Conviction Calls: see last week's Weekly Insights:

https://www.fnarena.com/index.php/2020/09/10/rudis-view-august-2020-lifts-price-targets/

(This story was written on Monday 14th September, 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: info@fnarena.com or via the direct messaging system on the website).

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A2M ABC AFG ALL ALQ ALU ALX ANZ APA APT APX AQZ ASB AVH AWC BEN BHP BIN BRG BSL CBA CCL CGF CGL CIM COL CPU CSL CWN DXS FMG GEM GPT IPL KSL LLC LNK LOV MFG MGR MSB NAB NXT OCL ORG OSH QAN RHC RMD SCG SGR SUL SWF SXL SYD TLS TNE UMG UWL VCX VEA WBC WHC WOR WOW WTC Z1P

For more info SHARE ANALYSIS: A2M - A2 MILK COMPANY LIMITED

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For more info SHARE ANALYSIS: APT - AFTERPAY LIMITED

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For more info SHARE ANALYSIS: CCL - COCA-COLA AMATIL LIMITED

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For more info SHARE ANALYSIS: CGL - THE CITADEL GROUP LIMITED

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For more info SHARE ANALYSIS: DXS - DEXUS

For more info SHARE ANALYSIS: FMG - FORTESCUE METALS GROUP LIMITED

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For more info SHARE ANALYSIS: IPL - INCITEC PIVOT LIMITED

For more info SHARE ANALYSIS: KSL - KINA SECURITIES LIMITED

For more info SHARE ANALYSIS: LLC - LENDLEASE GROUP

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For more info SHARE ANALYSIS: NAB - NATIONAL AUSTRALIA BANK LIMITED

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For more info SHARE ANALYSIS: TLS - TELSTRA CORPORATION LIMITED

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For more info SHARE ANALYSIS: WTC - WISETECH GLOBAL LIMITED

For more info SHARE ANALYSIS: Z1P - ZIP CO LIMITED