It’s A Love Affair

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

In this week's Weekly Insights:

– It's A Love Affair
– It's A Bigger Joke
– Lithium, The Sequel
– Rudi On Tour
– Nothing Ever Changes, Or Does It?
– Rudi On TV

It's A Love Affair

"When I look at what has happened over the sweep of my career the overwhelming story is that patient, diversified investment works".
[Journalist Malcolm Maiden in his final commentary for Fairfax newspapers]

If you look at the bottom of FNArena's Weekly Insights story (this one included) you'll find 44.50% of all individual stock ratings issued by the eight stockbrokers we monitor daily are Neutral/Hold while Buy and equivalent ratings make up less than 42%.

These numbers represent typical bull market conditions.

At the end of November last year, when indices were struggling to stay positive for the year, bouncing on and off the 5000 level compared to the near 6000 seven months earlier, Buy ratings were the largest group at 44.1% and Holds & Neutrals were at 43.5%.

It has been nothing less than an amazing turnaround since.

Stockbroking analysts are often chided and ridiculed. Yes, we all know they don't like to slap a Sell rating on stocks, unless it really becomes unavoidable, but they do like to put forward attractive suggestions. The fact that most ratings are now Neutral or an equivalent implies most attractive stories are by now well-priced.

Typical bull market phenomenon.

I have written extensively about the inner-dynamics of equity markets this year. After a tough slog post May 2015, and a silly rally at the end of December, the first six weeks of the new calendar year suggested a repeat of the 2008 Armageddon year, but since Yellen & Co got the message and backtracked, financial conditions have made a swift and remarkable turnaround.

I am sure I surprised many when I started referring to "bull market conditions" a few weeks ago. I was wrong on one account: I had expected that valuation limits would start guiding investors towards the laggards in the market but this has not been the case.

Instead, those stocks who were seen pulling the cart in 2015 are still doing most of the work today. The fact that resources stocks temporarily took the limelight in February, March and April and that banks have recovered from their lows is merely a distraction from what is really going on in the world today: investors have fallen in love with yield offering, relatively defensive industrial growth stocks.

In Australia, many of such stocks are carried by structural growth themes. Often a weaker Aussie dollar is yet another bonus on top.

Anyone looking for a real bull market need not look further than CSL ((CSL)), Cochlear ((COH)), Goodman Group ((GMG)), Brambles ((BXB)), Orora ((ORA)), Sydney Airport ((SYD)) and the like. You should know the names by now, I have mentioned them numerous times.

With exception of CommBank ((CBA)), all other banks in Australia are finding it difficult to stay above their 200-day moving average, and the same observation stands for resources heavyweights BHP Billiton ((BHP)) and Rio Tinto ((RIO)), as well as for many an energy producer, but nobody can deny the strong bull market conditions that are in place for solid, dividend paying industrials in Australia.

An Evening With Rudi

This is the year in which I turned half-a-century. To celebrate the event, FNArena organised "An Evening With Rudi", offering a small number of subscribers the chance to spend quality time with myself while wining & dining in an informal context.

Last week was the first of such events in Sydney. Comments and feedback received since have been overwhelmingly positive with suggestions made I should consider turning this idea into a regular occurrence. The next event will be in July in Melbourne, then follows the Gold Coast in Queensland (still under preparation).

What I learned from last week's Sydney event is that FNArena subscribers can now be put into two different baskets: those who've embraced my research into All-Weather Performers; and those who couldn't get past what forever seemed like rich valuations.

The first group sat around the table while beaming with a big smile from ear to ear, the second group talked a lot about "I wish I had" and repeatedly asked that same question: how long can this go on for?

They are by far not alone. Investors and strategists worldwide are struggling with the same question: surely there is a point when defensive growth stocks no longer represent good value?

It is a long standing observation that once investors fall in love with a certain stock, or a certain category or label for stocks, there's no automatic or scientific limit to how long the love-affair can last, neither to how far the affection can push up the share price. All we know is that it won't end until it does and by then today's share prices could potentially be a lot higher still.

As per always, there are genuine and solid fundamentals that underpin the current love affair for stocks like CSL, ARB Corp ((ARB)), Ramsay Healthcare ((RHC)), Transurban ((TCL)) and the likes; they have solid growth prospects, they have delivered, if not over-delivered, over many years, their prospects remain solid and -equally important- it still takes a leap of faith to see sustainable growth emerging in many other sectors.

Not to mention the fact many an investor, burnt, bruised and scarred from post-2011 experiences, has by now told his financial advisor: no more miners, energy companies or contractors. I found it remarkable that when I asked the question who owns resources stocks at last week's Evening With Rudi, not one hand was raised. Not one.

Crowds And Value

In yet more evidence that the trends in the Australian share market are by no means Aussie-only, respected US Citi strategist Tobias Levkovich notes the most obvious place to park money in the US equities markets has been in "credible growth" stocks. He notes investors tend to overpay for visible growth and worries this time might not be different. Thus far, however, buying themes like "quality at any price" (who invents these labels?) made all the sense given concerns about global growth and corporate earnings.

So what is going to trigger a reversal in trend? Levkovich offers it might be the Federal Reserve raising interest rates, as this implies the US economy is back on solid footing. Will it push investors into embracing cyclical growth stocks rather than solid, boring, highly valued defensive crowd favourites?

Market strategists at UBS are also feeling less comfortable with the popularity contest in the Australian share market. They identify three clear reasons as to why investors love buying shares in CSL and the likes:

– Superior earnings momentum (even during a year of pause such as is FY16 for CSL)
– Falling discount rates
– Weakening Aussie dollar

Their conclusion: "We may be witnessing a regime shift in terms of valuation due to growth scarcity and low interest rates but we would not ignore the risk of some degree of mean reversion."

Interestingly enough, UBS strategists are not necessarily advocating investors should abandon their popular, but crowded, safe havens and trade them in for resources and other, more risky segments of the market. They agree it still makes sense to remain skeptical on global growth. UBS is merely suggesting any new money might as well go into a more diversified approach as there is growth to be found elsewhere.

The UBS team makes two suggestions: premium stocks that still look attractive on a price-for-growth basis and lower rated industrials that also look attractive on price for growth.

The first group includes Aristocrat Leisure ((ALL)), Brambles, Crown Limited ((CWN)), Orora, ResMed ((RMD)), Sirtex Medical ((SRX)), Treasury Wine Estates ((TWE)) and Vocus Communication ((VOC)).

The second group includes Ansell ((ANN)), Computershare ((CPU)), Harvey Norman ((HVN)), Incitec Pivot ((IPL)) and Qantas Airways ((QAN)).

I can confirm, as I did during my conversations with investors last Thursday, the FNArena All-Weather Model Portfolio has taken some exposure off the table during this extended rally, for exactly the reasons that have these strategists a little worried. But let it be said: we are by no means ready to say goodbye to shares in CSL et cetera.

Money Flowing Back In

"Investors are feeling more comfortable with the prospect of rate rises in the USA". No doubt you've all come across this explanation for continued share market momentum to the upside. What does it mean, exactly?

Historically, interest rate hikes have traditionally acted as a brake on equities' performance. At least in the short term. And in 2016 this is supposed to act as a buying signal?

Never underestimate the potential for financial markets to surprise.

Remember how badly markets looked during the first six weeks of the new year? A lot of money went to the sidelines before, during and after those turbulent weeks and it largely remained sidelined, until now, apparently. Clearly, global investors have decided there's little prospect for a "Sell in May"' this year, even with the Federal Reserve intent on hiking rates, and thus the money is flowing back into equities.

The most remarkable observation to me is the money flowing in is going towards the safe havens, the leaders, the solid looking defensives, not to the laggards, the cyclicals, the global growth derivatives in the share market. That tells me a lot about current investor psychology and mindset.

Some commentators are worried about tax loss selling pulling the local market down in June. That may well prove to be the case, but I note, from past experience, tax loss selling is heaviest when many & large losses have accumulated. I don't think this is the case this year.

It's A Bigger Joke

Last week, I invited readers and subscribers to send in contributions for a joke on the financial sector. This week I am happy to report our initial scene of action around one table in a fancy, inner-city restaurant has expanded onto a second and even a third table.

The joke itself:

Three investors are engaged in a discussion on the status of financial markets in a famous steak house in the Big City.

At one point a knife falls off the table and plants itself in the foot of one of the men (of course, they're all men).

Clearly hurting, the guy asks his neighbour: "why didn't you try to catch it?"
The second investor responds: "I am a technical trader. We avoid catching falling knifes. Why didn't you move your foot?"
The first investor responds: "I am a fundamentalist. I didn't think it would drop so low."
He looks at the third investor who responds: "I am a contrarian. I had my hands knee-high in anticipation of the bounce, but it didn't."

At an adjoining table, a surgeon, a lawyer and a stockbroker have observed events unfold.

The lawyer asks the surgeon: "Maybe you can help?"
The surgeon replies:"I don't usually operate if the gap is that small".
"But tell me, what do you advise the aggrieved party to do?"

The lawyer pauses a second, then responds "I would advise the owner of the knife to sue his clients for failure to protect his asset".
The pair turns to the broker, who appears to be smirking. "I sold them protection against a fall last week, but their option expired yesterday".

In the far corner of the room sit two Chinamen quiet over a cup of tea.
"None of that would ever happen in our country", says one.
"We use chopsticks"

As anyone can judge from the above, our joke has grown substantially. FNArena remains open for remaining suggestions and additions, but I reckon we already can take pride in the achieved result: info@fnarena.com

[With special thanks to David Berman and Stuart Orr for their contributions, as well as to other suggestions that didn't make it]

Lithium, The Sequel

Paragon Funds Management is positioning itself as the uber-bull on lithium in the local market, predicting 10-15% compound annual growth rate or "CAGR" on the demand side for the next decade or so, which should see current bullish market dynamics continue over that period.

Paragon likes and owns shares in Orocobre ((ORE)), already in production, and in Galaxy Resources ((GXY)) and General Mining ((GMM)) whose Mt Caitlin JV is approaching first production (only a matter of weeks?).

Despite first murmurs elsewhere about a strong supply response already in motion, Paragon maintains there will be delays, disappointments, failures and new production is unlikely to reach design capacity, hence why predicted surpluses are unlikely to materialise in the real world where real demand is picking up fast.

Citi analysts have turned more positive too as they are gaining fresh insights at a lithium conference in China where the market has become extremely tight, resulting in a significant price gap with the rest of the world. As new production will come on-line, through the aforementioned Mt Caitlin and through Neometals' ((NMT)) Mt Marion before year-end, Citi anticipates both prices in China and elsewhere to relax somewhat.

Citi dismisses any suggestions of a major price pull back and if anything, acknowledge the analysts, the risks seem to be pointing towards further upside. "We don’t discount a small correction in 2017, although a major crash similar to rare earths is unlikely".

Ex-China prices seem to be based on all-in cost levels of production from spodumene rock, explains Citi. Current cost at US$600/ton equates to roughly US$7000-8000/ton which is approximately today's price outside China. Inside China buyers have to pay US$22,000/ton, go figure. Brine based producers in Latin America are currently producing at US$2500-US$3000/ton.

Rudi On Tour

I will be presenting:

– To Melbourne chapter of the Australian Shareholders' Association (ASA) on 6 July

– To a Selected Group of FNArena Subscribers, "An Evening With Rudi", in Melbourne, 6 July (sold out)

– At the Australian Investors' Association's (AIA) National Conference in August on Queensland's Gold Coast.

– To Chatswood chapter of Australian Investors' Association (AIA) on September 7, 7pm, Chatswood RSL

Nothing Ever Changes, Or Does It?

Yes, of course, investing in the share market is never really different and best working strategies today are the same that worked pre-GFC. Seriously. I tell you, seriously.

Now that we had a good laugh about it, let's get straight to business. This is a low growth environment. Has been since 2010 (it was masked at the time because of the V-shaped recovery from the global recession) and it is not likely to change fundamentally in the near term. I wrote a book about this (see below). This means investment strategies must adapt. You'll be turning your portfolio into a wish list for dinosaurs otherwise (and your returns will be a reflection of it).

Those not afraid to contemplate "this time is different" can subscribe to FNArena and read all about it in our bonus eBooklets 'Make Risk Your Friend' (free with a paid 6 or 12 months subscription) plus the freshly published eBook 'Change. Investing in a low growth world' (equally free with subscription, or available through Amazon and other online distributors).

Here's the link to Amazon: http://www.amazon.com/Change-Investing-Low-Growth-World-ebook/dp/B0196NL3KW/ref=sr_1_1?s=digital-text&ie=UTF8&qid=1454908593&sr=1-1&keywords=change.investing+in+a+low+growth+world

See also further below.

Rudi On TV

– On Tuesday, around 11.15am, on Sky Business, I shall make a brief appearance through Skype-link to discuss broker ratings for less than ten minutes
– On Wednesday I will host Your Money, Your Call Equities on Sky Business, 8-9.30pm
– I will be appearing as guest on Sky Business, 12.30-2.30pm, on Thursday
– Later on Thursday, I will be appearing as guest on Switzer TV between 7-8pm
– On Friday, around 11.05am, on Sky Business, I shall make a brief appearance through Skype-link to discuss broker ratings for less than ten minutes

(This story was written on Monday 30 May 2016. 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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BONUS PUBLICATIONS FOR FNARENA SUBSCRIBERS

Paid subscribers to FNArena 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. This book should transform your views and your investment strategies. Can you afford not to read it?

Subscriptions cost $380 for twelve months or $210 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

FNArena has reformatted its monthly price tracker file for All-Weather Performers. We shall update when the new month begins this week. Paying subscribers can request a copy at info@fnarena.com 

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