Rudi’s View: Are We There Yet? (Fat Chance!)

This story features MCMILLAN SHAKESPEARE LIMITED, and other companies. For more info SHARE ANALYSIS: MMS

In this week's Weekly Insights:

-Are We There Yet? (Fat Chance!)
-Conviction Calls
-Research To Download

By Rudi Filapek-Vandyck, Editor

Are We There Yet? (Fat Chance!)

As is often the case, the most important developments across financial markets this month are what is not shown through share price movements.

On Monday morning ANZ Bank mailed out its latest economic forecasts, and the changes are quite noticeable:

"Based on current and expected price trends we now forecast a terminal Fed funds range of 4.75-5.00% to be reached by Q2 2023, which is 100bps higher and almost six months later than we previously projected."

In layman's language: the Federal Reserve will be tightening for longer and pushing up interest rates a lot higher than previously assumed, which is not yet priced in by financial assets.

Equally important: the team of economists at ANZ Bank is now reviewing its forecasts for the RBA in Australia for a potential higher-and-longer scenario locally too.

It goes without saying, ANZ Bank is but one forecaster in a global world of many, but Monday's update is indicative of the trend that started early in 2022 – and the same undercurrent has remained in place since: inflation is much stickier than assumed, central bankers will need to work harder to pull it back towards 2% again.

Just about every economic outlook has the US, and the world in general, either close to or in recession next year. Imagine what higher interest rates for longer will do for the risks of recession.

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Financial markets are transitioning away from exceptionally low interest rates and bond yields with low inflation to (when viewed from 2020's starting point) much higher rates and bond yields and much higher and more persistent levels of inflation.

It's not just central bankers and economists who have been underestimating how far and how long this process of taming inflation is likely to stretch out; the same observation can be made about investors and financial markets generally.

Nine months in and it is possible we're only half-way through what needs to happen. Plus the bulk of consequences (slower growth, higher unemployment, less liquidity) is still ahead of us.

This, however, does not automatically mean the only way forward is a steady regression into full-blown disaster. There are still plenty of what-if scenarios that can push equity markets in either direction between tomorrow and 2024.

Citi strategists summed it up as follows recently:

-Positive scenario: inflation comes down quickly, allowing central banks to stop tightening sooner – equity markets rally circa 20%

-Negative scenario: inflation remains sticky and central bankers need to continue tightening, causing a global recession – equity markets sink by -20%

To prove my point: Citi's base case scenario is for two negative quarters in the second half of next year for the US economy. Yet, its strategists also believe corporate margins and profits will prove more resilient and thus equities should be able to continue clawing back more of the losses suffered earlier this year.

Which is why, short-term, the nascent US quarterly reporting season might prove of more importance than this week's FOMC meeting.

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On Friday, FedEx, well-known by investors around the globe and traditionally seen as a bellwether for the US economy (if not for the world economy) issued a severe profit warning, with management at the global transport and e-commerce services firm withdrawing guidance for the full year.

The shares were punished by -21% on the day -the worst fall in the company's history- and subsequently pulled down all peers around the globe.

FedEx management spoke of a sudden and severe deterioration in business momentum but thus far, also judging from general commentary and views, investors seem to be treating FedEx's problems as a pure e-commerce related matter. But what if it isn't?

Upcoming quarterly updates from corporate America might provide us with more insights.

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I am certain if we had the choice, most of us would say just get it over and done with, so we can finally move on and look towards a brighter outlook. Alas, there is no such choice and this global transition remains an elongated, drawn-out process.

Only half-way? It is but a genuine assessment. This is not the time to lose patience.

How exactly an investor should treat or respond to the ongoing uncertainties is very much a personal journey, defined by key characteristics such as appetite for risk, specific strategy and years of experience.

Some people can go on a holiday with nothing but a swag on a motorbike while others can never get used to even the more glamorous form of 'glamping'. Investing is not that dissimilar.

Last week, I accidentally bumped into Munro Partners fund manager Nick Griffin being interviewed on the ABC. While the journalist was trying her best to extract some regret on a day US equities had sold off heavily, Griffin stoically implied he never judges his investment decisions for one particular day only.

Munro's international fund went 40% into cash early in the year, and has since reduced that to 30%. Those are big numbers for a fund that directs some $4.7bn in clients' money.

It's a process, or something to that effect Griffin suggested, also adding financial markets are forward looking, so while central bankers and economies might need more time to adjust, it is likely the time to start buying more shares might "only" be three to six months out.

Marcus Padley of Marcus Today, on the other hand, has once again moved to 100% in cash.

For those who do not read the local gossip press, Charlie Aitken is fund manager no more and has returned as a private client advisor at Bell Potter. Aitken's forecast is for more (and extreme) volatility in the months ahead.

Get rid of the stinkers in your portfolio, is Aitken's advice, and draw up a list of all the great, quality companies you like to own. Keep enough cash at hand for when such stocks get clobbered.

The benefits should last for many years.

Aitken also advises if investors cannot stand extreme volatility in share prices, they might want to consider moving to the sidelines for a while.

The FNArena/Vested Equities All-Weather Model Portfolio, as I communicated earlier throughout the year, has equally kept its cash allocation at super-sized levels in 2022. Cash is currently above 30%.

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More insights can be derived from two large, global fund managers surveys. The monthly survey conducted by Bank of America revealed bearish sentiment is currently rife with average cash allocation at 6.1%, the highest level post 9/11.

The survey by S&P revealed expectations of negative returns from US equities near-term are now pretty much embedded in investment managers' minds. Some 79% sees a recession on the horizon, but only one in ten is predicting it will be a deep one.

The good news from the S&P survey is that bearish sentiment has been worse earlier in the year.

The BofA survey showed global investors are extremely cautious on Europe ("most Underweight European equities ever") and have positioned themselves en masse in consumer staples ("most Overweight since December 2008").

Global growth expectations are now at or near their lowest levels ever recorded while persistent, too-high inflation is seen as the number one risk. A net 92% of investors sees corporate profits declining over the twelve months ahead.

On BofA statistics, global investors have never been as Underweight in equities as this month (more underweight than in October 2008). Healthcare, Staples and Energy are everybody's favourite exposures, though the S&P survey also identified IT/tech among favourite sectors.

Similar to Australia, consumer discretionary and real estate have little to no friends, but overall sentiment has also noticeably deteriorated towards basic materials.

The above easily explains why daily trading volumes for the ASX200 were down -19.6% in July relative to the twelve month average, and -13.7% throughout August.

The irony is, of course, such extreme downbeat readings increase the chances of a counter-sentiment move, which in the current context would be yet another rally nobody believes will prove sustainable.

This is a point highlighted also by the aforementioned strategists at Citi whose proprietary indicator is suggesting overall risk appetite is close to sinking into "panic" territory yet again, which usually implies the next rally upwards is but an unexpected trigger away.

It will not, however, mark the end of this year's ongoing process which has a lot longer to run. Don't run out of patience in the meantime.

But also keep in mind: -20% is still just as likely as +20%.

Final observation for this week: if Quantitative Easing (QE) by the Federal Reserve contributed to the relative outperformance of US equities over Australian equities pre-2022, then it is most likely the reverse of Quantitative Tightening (QT) will contribute to Australian equities performing relatively better (as has already been the case year-to-date).

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Weekly Insights earlier in 2022:

–Don't Fight The Fed: https://www.fnarena.com/index.php/2022/05/26/rudis-view-dont-fight-the-fed/

–Peter's Portfolio Reviewed: https://www.fnarena.com/index.php/2022/04/13/rudis-view-peters-portfolio-reviewed/

–Double Your Protection: https://www.fnarena.com/index.php/2022/03/17/rudis-view-double-your-protection/

For those investors still wondering why gold is simply refusing to "perform" in 2022, here's my presentation earlier this year at the Australian Gold Conference (video):

https://www.youtube.com/watch?v=J7IzgE5eQ0k&t=5s

Conviction Calls

Analysts at Morgan Stanley have reiterated their positive thesis for half a dozen smaller cap companies post the August reporting season:

-McMillan Shakespeare ((MMS))
-Jumbo Interactive ((JIN))
-Lovisa Holdings ((LOV))
-Life360 ((360))
-Temple & Webster ((TPW))
-Dicker Data ((DDR))

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Wilsons' Focus List has traded in News Corp ((NWS)) for Nine Entertainment ((NEC)).

Among the reasons mentioned:

-better fundamental value
-higher quality earnings base (ex real estate)
-less cyclical business and more resilient than market is implying

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Stockbroker Morgans' Growth Model Portfolio has sold Westpac ((WBC)) shares to fund the addition of Domino's Pizza ((DMP)) in the portfolio, with the intention of adding more stock over time.

The Portfolio retains a relatively larger exposure to CommBank ((CBA)).

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Analysts at Macquarie have been asked to nominate their Best Ideas for the six months ahead, which are, on Macquarie's assessment, expected to be "volatile".

The result came in the form of 14 positive ideas and one sole negative: Wesfarmers ((WES)).

Large Cap (ASX100) nominations are:

-CSL ((CSL))
-GPT Group ((GPT))
-IDP Education ((IEL))
-James Hardie ((JHX))
-Lottery Corp ((TLC))
-Origin Energy ((ORG))
-Santos ((STO))
-Worley ((WOR))

Best Ideas outside of the ASX100:

-Auckland International Airport ((AIA))
-Centaurus Metals ((CTM))
-Coronado Global Resources ((CRN))
-Gold Road Resources ((GOR))
-Kelsian Group ((KLS))
-Megaport ((MP1))

Research To Download

Research as a Service (Raas) updates on:

-BetTube Corp: https://www.fnarena.com/downloadfile.php?p=w&n=3EDC2C7D-A70A-D6F8-DD0322D9A1E5F1D7

-Harvest Technology ((HTG)): https://www.fnarena.com/downloadfile.php?p=w&n=3EEB63B4-9E2A-738B-2EBD751C1F642866

-Metarock ((MYE)): https://www.fnarena.com/downloadfile.php?p=w&n=3EF0A0A4-C0C7-B0B9-F6657DD38B2AE18B

-Spenda ((SPX)): https://www.fnarena.com/downloadfile.php?p=w&n=3EF576CD-D150-174A-A18B860CB78989FB

(This story was written on Monday, 19 September, 2022. 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).

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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BONUS PUBLICATIONS FOR FNARENA SUBSCRIBERS

Paid subscribers to FNArena (6 and 12 mnths) 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.
– Who's Afraid Of The Big Bad Bear? eBook and Book (print) available through Amazon and other channels. Your chance to relive 2016, and become a wiser investor along the way.

Subscriptions cost $480 (incl GST) for twelve months or $265 for six and can be purchased here (a subscription to FNArena might be tax deductible):

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