Rudi’s View: All-Weather Stocks & Cash

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Dear time-poor reader: this Bear Market is changing the world, literally, in front of our eyes

In This Week's Weekly Insights:

-All-Weather Stocks & Cash
-The Bear Market That Changes The World
-Watch Balance Sheets, Re-Financing Risks
-The Cancellation We Had To Have

All-Weather Stocks & Cash

By Rudi Filapek-Vandyck, Editor FNArena

Bear markets are brutal. They take no prisoners. Shoot first, then shoot again, and maybe, just maybe, that's when they might start asking questions. Bear markets punish mistakes instantly and irrevocably.

Bear markets are also excellent teachers, at least for those investors and analysts who are ready to learn invaluable lessons. For years now we have all been reading analysts and funds managers predicting the next economic recession annex global bear market for risk assets would herald the end of growth and the money moment for largely ignored value stocks.

Guess what just happened in the past few weeks? Value stocks have been ab-so-lu-te-ly trashed to smithereens. Sure, many of them will come good and present excellent buying opportunities, but probably not just yet, except for that special kind of investor with an iron stomach who can confidently focus on the future, and ignore wild share market gyrations in the meantime.

Instead, many of the stocks that have relatively held up well throughout this global share market meltdown (let's call a spade a spade) are the ones most hated by your typical professional fund manager; "expensively" priced stalwarts such as CSL ((CSL)), Xero ((XRO)), and Woolworths ((WOW)).

There is no secret ingredient waiting to be unveiled here: these stocks represent less risk than your average bank, oil & gas producer or mining services provider. To be fair, many of the previously popular High PE names have not been spared either post January. While, understandably, if you really want to check up on true share market carnage, try travel agents, airlines and tourism operators.

Or simply look up Ardent Leisure ((ALG)). Clearly, investors have taken the view this badly managed owner of Dreamworld on the Gold Coast and Main Event in the US, originally born as Macquarie Leisure Trust, is not going to survive in its present constitution.

Want more horror stories? Check out Seven West Media ((SWM)), or Regis Healthcare ((REG)). Or simply look up Bitcoin in USD.

Having said so, owning quality sustainable growers with less operational risks only gets you so far when the Big Bad Bear is gripping its claws around global risk assets. Some days everything goes out with the bathwater. Other days the market might just target those relative outperformers because that's the only place where there are still some trading profits left.

The one Major change in a Bear Market is that cash instantaneously becomes an invaluable asset. It does not earn anything tangible in terms of an actual return, but cash helps keeping both short-term losses and the nerves in check.

The FNArena-Vested Equities All-Weather Model Portfolio did not sell out of the market at the very first sign of trouble in February, but we've gradually increased the level of cash as it dawned upon us that what is happening in global financial markets this year is far more serious than what we have experienced at any other time post the Global Financial Crisis.

As at Friday, the 13th of March 2020, total performance ex-fees for the running financial year (from 1st July 2019 onwards) stood at a negative -3% against the ASX200 at -13.56%.

Granted, the All-Weather Portfolio carried an extra cushion of circa 4% leading into this share market rout, as that's how much the portfolio returned in excess of the ASX200 in the second half of last year, but it still indicates significant outperformance over the past six weeks of extreme volatility, mostly to the downside.

I think we can all agree there are at least two lessons to draw from this experience thus far: if you are holding the right kind of shares you have a lot less to worry about, but reducing risk through shedding riskier stocks and disappointing investments, while keeping a healthy portion of the portfolio in cash simply cannot be beaten during times like these.

The second segment below was separately published as a story on the FNArena website, and elsewhere, on Tuesday morning this week. Weekly Insights continues further below with the two remaining segments.

The Bear Market That Changes The World

Take a step back from the day-to-day share price movements and news flow, and what we are experiencing is truly a watershed moment. Eleven-twelve years ago, I sat down one afternoon and wrote we are all experiencing a seminal moment in modern history.

As things unfolded, that was certainly an accurate description. We've seen studies and books since, and a few Hollywood movies and documentaries. Everybody now knows the "GFC".

What I did not foresee at that time, is that Bear Stearns, Centro Properties, Lehman Brothers, Allco Finance and CFDs would merely turn into the warm up act of a much bigger event twelve years later.

Yet here we are, it's 2020. We've had three mini-Bear Markets every 2-4 years, but also steadily growing debt (just about everywhere), record low interest rates, government bonds in negative yield territory, businesses that borrow money to buy in their own stock, a sharply widening gap between Haves and Not Haves in society, and a prolonged era of fragile and slow global growth. Not to mention the demographic changes, the technological disruption and the significant growth in easily accessible passive investment instruments.

The bottom line is that if we combine all these factors together, we end up with an increasingly fragile system. One that continuously runs the risk of falling apart. Which is why central banks have intervened so many times over the decade past.

We cannot genuinely blame them. There seemed no other option available back in 2008. And neither was there a reasonable way out in the twelve years since as the situation required more and more liquidity and ever lower cash rates and bond yields.

One of the inescapable observations is that central bank interventions are requiring more extreme actions at every point of the system threatening to break down.

This week the US Federal Reserve pretty much went all-in. Interest rates are at unimaginably low level; the cuts have been massive, fast, and unprecedented. And other central banks will be following the Fed's example. Won't be long before the RBA is buying bonds and mortgage-backed securities, and controlling the yield curve in a similar manner as has been happening in Japan for years now.

And yet, it won't be sufficient. We know this, because that's what financial markets are telling us. Of course, central bankers will continue to put in their best to prevent the world from melting down, but this year's problem is not one of credit and liquidity. That's just the sideshow.

This coronavirus pandemic is creating problems both on the demand side of economies -as consumers are hoarding and staying inside- as well as on the supply side where businesses have stopped operating or cannot get anything across the border.

A significant intervention from elected governments (i.e. fiscal stimulus) is thus required. So far they are getting the message, slowly, and coming to the table, though it's not yet with that same urgency as we have witnessed from central bankers. Let's hope this is about to change, and soon too.

Repeating the voice of many other experts: this is not an opportune time to act cautiously and with hesitation. This emergency requires bold and significant action. Governments need to be prepared to go all-in too. Financial markets are not simply a reflection of what is happening in economies around the world; they equally have an impact on these economies and on the businesses and consumers within.

Won't be long, I reckon, before we read about government bailouts for badly hurt, too big to fail, crucial businesses. Lower rates and increased liquidity don't create demand for, say, airplanes. That's up to airlines, and they are in deep trouble. No customers, no demand, no cash flow. Many might go out of business. How many will still be making payments to Boeing?

Visions of 2007 and 2008 are starting to re-appear. This time it won't be just banks. But equally so, governments won't be able to save everyone.

And yet, ultimately the global recession that is causing this Bear Market cannot be fixed without containing the virus pandemic. Here, I believe, the biggest problem is potentially the US, the world's largest economy. There still is a lot of confusion about covid-19, but we do know it can quickly spread exponentially.

What has become crystal clear already is that in countries where governments and citizens are quick on their feet to take precautions (other than hoarding toilet paper) the spread of the virus remains limited and hospitals are not at risk of overcrowding.

Both Singapore and Hong Kong had experience with SARS, so no coincidence they have both managed to avoid extreme lock down and overcrowding-situations with deadly casualties as is the case in Italy, Spain and, increasingly, in other countries throughout Europe.

We yet have to find out how effective the approach to date in Australia will turn out, but thus far indications are we are nowhere near the same limited growth curve of covid-19 spreading as has happened in Singapore and Hong Kong.

The real worry is the situation looks a lot less promising for the US.

The simple truth is authorities in the world's largest economy are unprepared for what is happening around the world. Do note I said unprepared. Not ill prepared.

The US is unprepared. Which should hardly come as a surprise. I don't care about anyone's political colour or preferences, but if you haven't figured out yet this President is incompetent, all bluster and no substance, then there is seriously something wrong with you.

He cannot even read properly from the autocue when speaking to the nation. Last Friday, the US President was mailing out price charts of the US stock market with his signature on it. The latest scandal is Trump offered to buy "exclusive" access to a covid-19 vaccine developed by German biotech CureVac.

The heart shudders to think of the many devastating consequences of what will happen to the US population and its economy if the spreading pandemic leads to similar crises as we are witnessing in Italy, and before that in China. Once upon a time the US had experts in charge of infrastructure to deal with pandemic outbreaks. Not any more.

Revered writer of financial and contemporary chronicles, Michael Lewis, wrote The Fifth Risk in 2018. It reveals how the Trump administration has consistently undermined, emptied and underfunded essential government services since taking over from Obama in early 2017. That is going to show up big time when the proverbial hits the fan.

They say in politics every population gets the leaders it deserves. That's definitely one thing the world can throw back at America: hey, you voted for the guy, now you're going to have to deal with the consequences.

The problem here is that the rest of the world did not vote for the guy, but there won't be any escaping the consequences if, as I suspect, the spreading coronavirus is yet to fully take off inside the world's largest economy.

Recessions are no fun. Neither are Bear Markets. Which is why Market Rule Number Ten by Wall Street legend Bob Farrell reads "Bull markets are more fun than bear markets".

Incidentally, Bob Farrell's Ten Timeless Rules For Investors also identified three stages for the typical Bear Market. First there is the savage sell-down, then comes the Sucker's Rally, the final stage is the tortuous grind to ever lower levels.

Central bankers around the world are trying really hard to pull this Bear Market into phase two. But they will need governments to cooperate and coordinate.

Gosh, the thought that global wealth and health now lies in the hands of this administration in Washington makes me genuinely depressed. Let's hope I am just being silly.

But let there be no mistake: the answer to the question of how do we ever get out of this mess is still the same: with more money. Loads of more money. This time governments around the world will join in with central banks. This is why this Bear Market is changing the world in front of our eyes.

All of us ain't seen nothing yet.

Watch Balance Sheets, Re-Financing Risks

One of the wisest observations I came across this week is that many a share price is starting to look like a bargain on a 12 to 18 months horizon, but investors better make sure that companies are able to bridge that gap.

It's simply another way of saying: when hit with a crisis of this magnitude, you don't want to own shares in companies with weak balance sheets, not enough cash and too much debt that needs to be paid off or refinanced soon.

Analysts at Macquarie have identified four industrial companies listed on the ASX whose refinancing comes up within the coming twelve months and which represents more than 15% of their market capitalisation. It should be no surprise, the shares in these companies have fallen more than many others.

The four companies identified are Wagners Holding Company ((WGN)), ALE Property Group ((LEP)), Worley ((WOR)) and Downer EDI ((DOW)).

It gets worse. Outside of the ASX100 Macquarie has identified three companies whose refinancing over the coming three years exceeds their total market capitalisation. These are Seven West Media, oOh!media ((OML)), and Southern Cross Media Group ((SXL)).

Other stocks to highlight are Unibail-Rodamco-Westfield ((URW)), Link Administration ((LNK)), LendLease ((LLC)), Incitec Pivot ((IPL)), and Qantas ((QAN)) as these companies all have substantial three-year refinancing awaiting in the next three years (each in excess of 35% of their market cap).

The Cancellation We Had To Have

In light of developments, I have decided to cancel this month's Special Event at the Royal Exchange in Sydney. We'll resume at a more appropriate time.

(This story was written on Monday 16th March, 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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