Guide To Website: The Icarus Signal Explained

This story features CHARTER HALL GROUP, and other companies. For more info SHARE ANALYSIS: CHC

This story was originally published as part of Rudi's View on 29th April 2021. It has now been republished in its own right to promote a better understanding of FNArena's The Icarus Signal.

The Icarus Signal Explained

By Rudi Filapek-Vandyck, Editor FNArena

The Icarus Signal is one of several proprietary tools FNArena offers to paying subscribers, and it regularly triggers questions such as "how exactly does it work?"

The latest inquiry specifically asked whether I could use Charter Hall ((CHC)) as a practical example.

Instead of trying to explain The Icarus Signal through Charter Hall in a private communication between Editor and subscriber, I've decided to share it with the broader database, as I am sure many more have similar questions.

First of all: The Icarus Signal is simply an extra tool we offer. It won't suit everyone and certainly not under all circumstances. Having said so, I also know some subscribers are using it as an integral part of their strategy.

In its essence, The Icarus Signal follows through from my initial observation, made many moons ago, that the upside in most banks' share prices is usually limited by the consensus price target.

This is where my personal market sentiment gauge stems from. I compare share prices with consensus targets and assess where we're at. Logical questions to ask include: is there still upside left? Are those targets likely to be raised or reduced shortly? Are share prices anticipating the next upgrades/downgrades?

The practical value of this approach/analysis is shown in the ANZ Bank ((ANZ)) chart below, taken from the FNArena website (Stock Analysis).

For those not yet fully familiar with the FNArena price charts: the grey zone on the chart shows the consensus price target, and how it has developed over the past twelve months.

We can all witness how the target fell to $20, and slightly lower, when times were not looking too bright and since then there has been a steady climb to currently above $29, as analysts are increasingly looking forward to what is widely expected to be a stellar results season for the sector.

If we know change focus to the share price, we see the share price was initially much lower than the falling target and subsequently quickly filled in the gap in late May last year, only to be knocked back again, and then put in another two-phased rally in October-November that once again filled the gap with a steadily rising consensus price target.

Observation number one: when the ANZ share price is trading well below consensus target, it doesn't stay there for long. On the other side of the spectrum: when the ANZ share price rises above target, it tends not to stay there for long either. It is equally easy to establish the share price since November last year has simply followed the rising price target, almost in too perfect fashion.

This is one key reason as to why I like to use the banks share prices in relationship to broker price targets. Under most circumstances, it simply works.

Now, let's be clear about this: I use the banks, all four of them, to gauge market sentiment and to assess whether the index has, maybe, temporarily run too far ahead of underlying fundamentals. Everyone with access to the info on the website can do the same, but how investors otherwise use this information to their advantage is a complete different matter; and not always as straightforward.

For example, we can all now establish that buying ANZ Bank shares, or more shares, every time a large gap opened up between share price and target, this would have been a very profitable strategy. But if we sold out on every occasion the share price rose above target we would equally have missed out on a lot of additional upside.

This is where things can get tricky. We must be able to also gauge the overall context in which these movements and changes take place. So it's not simply a case of sell once the target has been hit and buy when the share price is much lower. That doesn't always work either. Plus it may not suit those portfolios that are built to own shares for a long time.

Complicating matters a little further: the same analysis does not apply to CommBank ((CBA)) whose share price is seldom below consensus target. This is because CommBank's share price carries a premium vis a vis the rest of the sector. Assuming this premium remains in place, it automatically implies that when ANZ Bank shares are at or near target, CommBank shares must be trading well above in order to keep that sector premium intact.

The importance of CommBank in this context cannot be underestimated. It immediately removes the notion that all shares are the same, always and with no exceptions, and that the share market can simply be approached via this simple price target versus share price principle. Instead, this is but one additional tool that can prove handy when used with experience and under the right circumstances.

One of the reasons as to why this principle works so well with banks, under most circumstances, is because the Big Four represent more than 20% of the ASX200. Most investors have exposure, either direct or indirect. Banks are the most analysed and researched sector on the ASX. There is a certain predictability that stems from this.

The general context for other sectors, let alone small-cap and micro-cap stocks is not comparable. Hence: a lot less predictability.

Nevertheless, FNArena developed The Icarus Signal as a follow-through of what initially started with the banks, and we now show those stocks that are trading close to target, above target and well, well, well below target. With the third category: such an observation should make one think why is there such a large gap? Is it maybe because of excessive risk? Or is the market signalling some major disaster or disappointment is but one extra ASX announcement away?

Regarding the first two categories: the best advice, as with any tool or market indicator, is to build up personal insights and experience. As shown with the above examples of ANZ and CommBank, simply understanding the differences between sectors and stocks can become a humongous advantage in itself, as is the fact banks as a sector are still in an upgrade cycle.

Example: Charter Hall

Stepping away from the banks, let's take a closer look at Charter Hall.

Charter Hall's price target has equally risen, and quite spectacularly, since bottoming in mid-2020 at around $9.50 to above $15.60 today. But contrary to ANZ Bank, the share price has not followed suit since the start of calendar 2021. We can blame the bond market for this, even though rising bond yields have stopped being a major nuisance for stocks like Charter Hall in recent weeks.

Prior to the end of calendar 2020, a similar pattern as for ANZ Bank can be observed, with the Charter Hall share price rallying to close the gap with the target, temporarily rising above target, then pulling back even if that rally accurately anticipated the target was cum upgrade. We can see this pattern repeating itself through three similar looking phases (1, 2, 3 on the chart).

Does the Charter Hall share price now offer opportunity and residual upside? Analysts covering the stock think the answer is 'yes'. All targets set by the six brokers are above today's share price (though Credit Suisse's target is only 2% higher) and the calculated average of all six targets is no less than 13.5% higher for a stock offering 2.7% additional return through dividends.

But investors should also note this upside is dependent on Charter Hall achieving strong growth in FY22 (see market consensus forecasts in Stock Analysis), after what looks like a negative reset in the current financial year. And it is more than likely investors are still a bit wary about what exactly the bond market might do in the second half and next year.

As the Charter Hall share price is trading well below target, while forecasts for FY22 are gradually rising (see the purple line in the bottom section of that chart) I'd be inclined to retain a positive view, unless something happens that changes market forecasts dramatically to the downside, which is always a possibility, of course, but not highly plausible at this stage, on my assessment.

Nevertheless, investors should always keep in mind all of the above -forecasts, valuations, share prices and price targets- are highly dependent on what is predicted and what can be predicted. Life and the share market would produce a lot less surprises if everything could be anticipated well in advance.

Finally, as the FNArena website offers full transparency as to which brokers have what price target and forecasts, and why, investors can make their own variations with the information provided. For example, UBS has been the negative stand-out when it comes to Afterpay ((APT)) and when there are only seven targets to combine, one very low target of $36 has a truly depressing impact on the overall average.

FNArena's automated calculation takes the simple average, which includes UBS's input. If you decide you don't want to include UBS, you can simply put the other six targets through a calculator and divide by six. The consensus target ex-UBS thus changes to $135.55 which means the share price is still below it, while the current set-up suggests Afterpay shares are trading above target, albeit not by much.

In similar fashion, there are circumstances in which I tend to take guidance from the top targets only, for example when commodity price upgrades are coming through. Also, older targets do not automatically equal outdated. Sometimes brokers simply see no reason to produce a detailed update, while others are issuing regular, brief updates. It doesn't make the latter more accurate.

It's probably fair to assume that the better one knows the stocks in portfolio, the better one is able to use this extra tool and to integrate it successfully in the investment strategy.

It is equally valuable to remember the numbers behind the numbers are done by humans and based upon assumptions and projections. And, of course, share prices can move on a lot more than simply earnings and valuations.

[In Greek mythology, the father of Icarus helps him to escape Crete by making him wings out of feathers and wax, warning him against complacency and hubris. Do not fly too low as to risk the feathers getting wet, and do not fly too high as to risk the sun melting the wax. Icarus doesn't listen, flies too high, and plummets into the sea.]

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

FNArena is proud about its track record and past achievements: Ten Years On

Click to view our Glossary of Financial Terms