September Uncertainties (And Five Key Questions)

This story features FREELANCER LIMITED. For more info SHARE ANALYSIS: FLN

In This Week's Weekly Insights:

– September Uncertainties
– Five Key Questions
– Still Plenty of Room For Surprise
– Freelancer: A Model For The New World
– Rudi On TV
– Banks: Two Charts

September Uncertainties (And Five Key Questions)

By Rudi Filapek-Vandyck, Editor FNArena

There are still three more months plus two weeks until 2015 ends, but already calendar years 2014 and 2015 have something in common that may have escaped many an investor's attention: at the time the seasonal pattern of weakness of mid-September kicks in, local equity indices are in negative territory for the year. At least if we forget about dividends for now.

As many among you will recall, return ex-dividends for Australian equities over 2014 did not reach higher than 0.35% between the first trading day of the year and the final session in December.

There is one notable difference: last year US equities did not dip into negative territory. US investors had a reasonably good year in 2014. This year, however, US equities are also in negative territory. Time to get worried?

Past Fifteen Years

Usually by the time September arrives, share market investors have had a good time, with capital gains and dividends pushing total return up for the year and with temporary weakness in September-October setting the scene for a closing rally into year-end. At least, such is the standard playbook during the good times.

Between 2003 and 2007 share market indices in Australia in each year were up for the year by the time the calendar reached mid-September, and they stayed up for the year rolling into December and into the next calendar year. A true blue, solid bull market is so much more fun, isn't it? All that changed in 2008, when post September yet another crushing leg downwards took that last bit of hope away by the time 2009 arrived.

Prior to 2008 we have to go back to 2002 and 2001, in the midst of the post-Nasdaq meltdown bear market, to witness local indices dipping into the negative by mid-September. In 2002 the trend remained south and indices closed in December below where they were in September. But in 2001 weakness in September-October was followed by a late year rally securing small gains for the year as a whole.

One easy to draw conclusion is thus that a negative return (ex-divs) by mid-September does not automatically imply a negative return for the calendar year. There is always still the prospect for a late-in-the-year surge. But calendar years that see September pulling indices below first of January level are rather modest return years at best.

This can hardly come as a surprise. Post mid-October when in most years the seasonal weakness has run its course, there are only two months left until Christmas and only a few extra trading sessions until the new year.

What might come as a surprise is that negative returns (ex-divs) by mid-September have become a common occurrence post 2009. It happened in Australia in 2010, then again in 2011, then again in 2014 and now again this year. The pattern overall has not been that much different in the US.

To some, this might serve as a indication of how weak this post-2009 "bull" market has been. Others might point at the over-ruling impact of big macro-scares, such as the fear of a potential implosion of the European Union and a hard landing in China.

What cannot be denied is that September-in-the-red events occur both during bull and bear markets and the past fifteen years have shown no indication other than that it happens in rather modest performance years, regardless whether US indices are also in the red or not.

Christmas Rally?

All of the above simply further emphasises what everybody already knows: unless we get this interest rate uncertainty in the US out of the way, as well as more confidence that China is not pulling back growth in the rest of the world too far, there remains but little hope for a bright and joyous finale to calendar 2015.

Within this context it might be opportune to remind everyone last year didn't look particularly flash either with the share market merely exhibiting short rallies that ended up lacking enough oxygen to last and in December indices temporarily fell below the low point of September. It was only then the market started to anticipate the RBA might deliver one or two more rate cuts and a big swing to the upside started building.

But First…

Whether the current set-up in global risk assets is either a platform for the next upswing or a harbinger of more negative developments that will eventually pull prices much lower is very much dependent on whom you ask the question of these days.

Granted, the majority of experts and market watchers remains firmly convinced it is the former, but then what do they know, really? You don't have to be a cynic to remind yourself that back in 2007, on the eve of what was about to turn into a truly shocking and devastating world-changing series of events, the large majority of today's experts were not only the same people, they also were voicing the exact same opinion as today.

Remember subprime is a small problem in the world's largest financial market, it will have no effect on Australian banks?

Lucky were those investors who paid heed to our warnings here at FNArena instead.

This time around, however, I have no conviction either way. It's what we don't know that is going to shape the future and right now there's a whole lot we don't know. Which is why I have been suggesting investors should stay nimble and cautious, not automatically assume that falling share prices present a bargain, stay cautious and re-connect with your own comfort regarding the risks your money is exposed to.

Most financial experts are simply playing the odds. One does not need an in-depth historical data-analysis to realise that most times, these grave market scares end up not materialising, and thus they offer excellent longer term buying opportunities. Until that one rare moment arrives when things turn out differently, like in 2007 and in 2000.

Maybe the world will look a lot less clouded in five weeks' time? At least we'll have the seasonal pattern of share price weakness behind us by then. Also, I do sense that analysts and economists are becoming more comfortable with slowing Emerging Markets economies, on the assumption, of course, that China will stabilise, soon-ish.

…A Warning From Gartman

But first… a warning from Dennis Gartman, seasoned trader and thick-skinned observer of financial markets. Gartman is "very worried" about US equities in particular, because the S&P500 has carved out what looks like a classic, text-book example of a pennant formation. Such a technical set-up, informs Gartman, almost always resolves itself in the direction the market was heading into prior to its formation, which in this case means the market is likely to break lower.

If Gartman's worry proves accurate, the next target for the index should be at 1725-1750; some 200 points lower.

Making matters a little more confusing (a sign of the times?), Gartman also believes most commodity markets are in the process of establishing a long term base, from which the next upswing can take place. Putting one and one together, it appears experts like Gartman are happy to observe from the sidelines, in anticipation of better entry points ahead.

Gartman: "If the recent “pennant” consolidation does indeed give way to the downside, as we fear/expect that it shall, then sometime in October shall come one of the great buying opportunities of the past several years. Hopefully we shall be prepared for precisely that."

Success not guaranteed, of course.

Five Key Questions

Economists at Paris-based Natixis not only lined up the five most important questions all investors should be asking right now, they also provided the accompanying answers.

1. Will China use a significant depreciation (e.g. 15-20%) of the RMB (CNY) exchange rate to boost its economy?

If the answer is yes, explains Natixis, investors should expect a "considerable fall" in share prices in OECD countries alongside a "significant depreciation" of emerging countries’ currencies. Luckily, the economists believe the answer is "no".

2. Will Saudi Arabia reverse its strategy and reduce its oil production to push up the oil price, increase its revenues, and reduce its fiscal deficit?

If the answer is yes, there could be quite some financial mayhem, explains Natixis, as the resulting rise in the oil price would lead to rising long-term interest rates, falling share prices and an appreciation of the euro. No confident response to be found here, other than the observation that Saudi Arabia doesn't seem to have given up on its strategy to inflict maximum pain on US shale producers and so reduce oil production.

3. Will the ECB increase the size and the duration of its quantitative easing programme?

Natixis explains, if the answer is yes, long-term interest rates will remain very low in the euro zone for a long time, and the euro will be weaker against the USD. The economists believe the answer is "yes".

4. Will euro-zone growth actually be stronger in 2016 than in 2015?

Natixis points out this is what just about everyone has been forecasting and if this turns out not the case, share prices will likely correct on the downside, credit spreads will widen, long-term interest rates will fall and the euro will weaken. No straight answer to be found here. According to the economists, pretty much all progress thus far this year is due to cheaper oil and a cheaper currency. How is the refugee crisis going to impact?

5. Will the global situation where private savings exceed investment persist?

Natixis says "Yes". Global private savings are increasing due to the prospect of ageing; investment is declining as a result of deleveraging and uncertainty, the decline in the weight of industry and the increase in the weight of services in the global economy. This remains an important argument in favour of "lower for longer" interest rates; and a potential major factor for global asset prices as the excess of savings over private investment has to go somewhere.

Note that, despite all the hullabaloo about the Fed will/won't, US interest rates don't even deserve a mention on Natixis' list.

Still Plenty Of Room For Surprises

Never underestimate the potential for surprises, good and bad. We are all reminded of this as news is breaking [Monday afternoon] there will be a leadership challenge inside the Federal Government in Canberra. Fun and Games, n'est-ce pas?

Freelancer: A Model For The New World

Despite the lack of real growth or innovation at the top end of the Australian share market (more banks anyone?), the ASX remains home for a plethora of genuinely interesting and exciting business stories, albeit many of these are situated in the small cap space, don't have much of a track record just yet and remain largely unknown to most investors.

They don't always immediately take off by rewarding shareholders handsomely either, as evidenced by the brief history for Freelancer ((FLN)) as an ASX-listed entity. Despite the share price picking up sharply this year, there is still some catching up to do with the levels witnessed after listing in late 2013, early 2014.

Freelancer operates the world's largest online market place for businesses seeking contractors ("freelancers") looking for paid work. As such, it is not far a stretch to regard the company as a symbol for the New World tomorrow, one wherein technology works to the benefit of both businesses in developed economies and their flexible workforce. Too bad Freelancer is but a small cap, still, with no prospect as yet of joining one of the leading indices. Similar to the examples I mentioned last week, this company too deserves a lot more research than it currently enjoys.

I only know of Patersons and Canaccord Genuity actively covering the company and the latter last week released an update, effectively reminding investors Freelancer should be a major beneficiary of the weakening Aussie dollar given its international focus. In the analysts' words: Freelancer has emerged as one of the fastest growing company's listed on the ASX, however its growth profile is set to accelerate as the AUD continues its harmonious depreciation.

While some 70% of the company's costs are anchored in AUD, Canaccord highlights 67% of total sales are USD correlated, 10% is in GBP and 6% in CAD.

Freelancer is a bit of an odd duckling on the ASX. It does predominantly business offshore (90%), has a gross operating margin of no less than 88%, knows to date of no genuine corporate nemesis and has so many growth options and possibilities available that management is happy to reinvest most profits into future growth potential.

Everything that's being penciled in for the years ahead, at least as far as positive EPS numbers are concerned, are completely at the discretion of company management who says it has full support from major shareholders to continue making as many investments as possible in order to fully capture the opportunity at hand.

Canaccord's philosophy behind it all is that if a weakening Aussie dollar results in more profits, which are then mostly invested, this means future growth potential expands, and this deserves a higher share price. Canaccord has a twelve month price target of $1.75. Plus a Buy rating, of course.

Banks: Two Charts

Australian bank shares look cheap, both in comparison with past averages and with the broader market, believe it or not. All that is captured in Deutsche Bank's latest update from which the graphs below stem from.

Always remember: naked data seldom tell the whole story. ANZ Bank is the cheapest because it has more exposure to Asia's emerging economies and that's where investor angst lives and thrives in 2015.

Rudi On TV

– on Wednesday, Sky Business, 5.30-6pm, Market Moves
– on Thursday, Sky Business, midday-12.45pm, Lunch Money

(This story was written on Monday, 14 September 2015. 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 Editor Direct on the website).

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THE AUD AND THE AUSTRALIAN SHARE MARKET

This eBooklet published in July 2013 forms part of FNArena's bonus package for a paid subscription (excluding one month subscriptions).

My previous eBooklet (see below) is also still included.

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MAKE RISK YOUR FRIEND – ALL-WEATHER PERFORMERS

Odd as it may seem, but today's share market is NOT only about dividend yield. Post-2008, less risky, reliable performers among industrials have significantly outperformed and my market research over the past six years has been focused on identifying which stocks, and why, are part of the chosen few; the All-Weather Performers.

The original eBooklet was released in early 2013, followed by a more recent general update in December 2014.

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