Market Matters Report / Market Matters Weekend Report Sunday 20th January 2019

By Market Matters 20 January 19

Market Matters Weekend Report Sunday 20th January 2019

Market Matters Weekend Report Sunday 20th January 2019

The ASX200 has rallied strongly following its aggressive sell-off from last year’s Augusts 6373 high and the current market internals remain strong. Last week we saw an impressive 80% of the ASX200 close in the green with most of the losses in the defensive stocks e.g. Utilities and Real Estate. The market has rapidly moved on from its concerns around a looming recession with the growth stocks dominating the best performers last week e.g. Afterpay (APT) +19% and Appen Ltd (APX) +13%. Basically we’ve seen another total about turn in market sentiment in a very short period.

Last year global equities had 2 very weak periods, firstly on fears around rising interest rates (bond yields) and secondly on fears of a looming recession. We think there’s a strong possibility that we may see a repeat performance in 2019 with investors trying to predict the end of the post GFC bull market. The investment environment is undoubtedly becoming more challenging / exciting as the global economic cycle matures i.e. both economic growth and central bank stimulus are at turning points creating increased volatility and larger market gyrations.

It seems likely that the next 2-years will be extremely exciting for the active investor, especially those who are happy to sell when optimism gets ahead of itself.

The recent MM call that the ASX200 was set to correct its entire 963-point / 15% decline is already looking on the money although its easy to now argue that we are too bearish! Our opinion for the likely characteristics of this unfolding correction still remain unchanged:

1 – the ideal technical target areas for this correction is now 5890, or 6005 i.e. 50% or 61.8% of the entire decline.

2 – Considering the decline took 18-weeks to unfold we would expect the current aggressive 4-week correction to last at least another month but probably not with the same recent momentum.

“V-shape” market falls and recoveries are usually the hardest to foresee as they involve that powerful human emotion “panic” in both directions, as such they often extend further in both directions than many expect implying we see the psychological 6000 area in Q1– stocks are already telling us loud and clear 2019 is a year to remain very open-minded – our best guess moving forward is shown below which suggests an intermediate top is close at hand.

ASX200 Chart

The sentiment around the US – China trade war appears to be improving with China now offering to go on a 6-year “buying spree” of US imports in an attempt to address the trade imbalance. The number being discussed is a staggering $1 trillion of goods from the US over the 6-years. President Trump has a clear opportunity to look good at home and potentially deflect attentions away from impeachment issues and the prolonger Government shutdown.

When we stand back and look at the US S&P500 over the last few decades the recent correction was relatively small when compared to those in 2000 and 2007, in points and especially % terms.We expect a relatively choppy 2019 for the S&P500 and wouldn’t be surprised to see prices confined between 2300 and 3000 i.e. buy when the bears are roaring and sell when the bulls are charging. Sounds simple!

US S&P500 Chart

The Volatility Index (VIX) shows very quickly how the fears in late December have all but vanished in less than 4-weeks, the VIX has more than halved.

The previous standout spikes higher in market fear have occurred after relatively prolonged periods of stability implying stocks could be quiet in Q1 / Q2 of 2019.

Volatility VIX (Fear Gauge) Index Chart

US bond yields are the key for us in 2019

Technically bond yields have potentially just experienced a logical correction within a clear uptrend since global interest rates experienced their panic lows in 2015/6 – remember those crazy negative bond yields?

Last months BAML Fund Manager Survey showed extreme bearishness with over 50% expecting the global economy to deteriorate over the next 12-months. The December survey actually showed the largest ever rotation into bonds (safety) driving down their respective yields as can be seen on the chart below, there was also large allocations into defensive sectors like Utilities.

However this huge negativity was primarily caused by the trade war and general economic conditions in China, hence it’s no surprise we’ve bounced so strongly as tensions diminish between Xi and Trump – for now at least. At this stage we are a bit on the fence around US bond yields with a 70-30 preference they rally to fresh highs ~3.5% which would imply it’s going to be a while until global markets again dance to the recession jitters.

However we do believe strongly there will be another time (s) to be long defensives and cash in 2019 / 2020 hence we will be watching US bond yields extremely closely.

US 10-year bond yield Chart

1 Sector rotation to rule in 2019

Late 2018 saw huge sector rotation from high growth / valuation stocks into defensives, the last 3 to 4 weeks has seen this switch take a battering for those not nimble enough to reverse into late Decembers panic. On Friday when most of the market was rallying strongly 9 “defensive” Real Estate stocks closed in the red while the high growth Software and Services Sector continued with its strong recovery - up ~12% in around 4-weeks.

Being on the correct side of such extreme sector rotation is again likely to add huge portfolio outperformance in 2019 / 2020.

MM has enjoyed solid profits from Altium (ALU) and Xero (XRO) which we bought into the late 2018 panic selling while we still hold Appen (APX) which looks likely to make fresh all-time highs above $16. At this stage we feel the elastic band between growth and defensive is not extended, but one thing I can say with almost total confidence is it will again at some stage, and the informed investor will again have the opportunity to profit from both extreme optimism and pessimism.

ASX200 Software & Services v Real Estate Sectors Chart

Similarly at this stage we feel the elastic band between Materials (Resources) and Healthcare is not extended in either direction.

Hence at this stage we are largely looking at stocks on their individual merit as opposed to sectors more generally.

ASX200 Materials v Healthcare Sectors Chart

2 Some dogs of 2018 may shine in 2019

Last year we saw some massive performance divergence across the ASX200, just consider the below stocks which are up / down over 30% from where they were this time last year, an amazing total of 47 stocks or 23% of the ASX200.

Winners – IEL Education (IEL) +82%, New Hope Coal (NHC) +62%, Beach Energy +33%, Sol Patts (SOL) +54%, Ingham’s (ING) +34%, A2 Milk (A2M) +48%, ResMed (RMD) +47%, Saracen +97%, Evolution (EVN) +47%, Northern Star (NST) +59%, CSL Ltd (CSL) +36%, GMG Goodman (GMG) +45%, Trade Me Group (TME) +44%, Afterpay (APT) +115%, Appen Ltd (APX) +83%, Altium (ALU) +68%, Technology One (TNE) +37%, Bravura Solutions (BVS) +100%, Wistech (WTC) +40% and Xero +41%.

Losers – CYBG (CYB) -41%, Ardent Leisure (ALG) -31%, Platinum (PTM) -42%, Pendal (PDL) -31%, Eclipx (ECX) -35%, AMP (AMP) -48%, Perpetual (PPT) -35%, Janus (JHG) -41%, Challenger -33%, IOOF (IFL) -50%, Bellamys (BAL) -48%, Sigma Healthcare (SIG) -32%, Estia Health (EHE) -38%, Sims Metal (SGM) -37%, Orocobre (ORE) -48%, Syrah Resources (SYR) -54%, Western Areas (WSA) -31%, Galaxy (GXY) -36%, Boral (BLD) -31%, CSR (CSR) -38%, PGH Ltd (PGH) -34%, Ausdrill (ASL) -46%, Domain Holdings (DHG) -32%, Aveo Group (AOG) -42%, Automotive Holdings (AHG) -57%, Speedcast (SDA) -45%. and Infigen energy (IFN) -35%.

Its an easy game we play, simply run the profits on the winners and cut the losses on the losers…..if only!

We read an excellent Livewire post this week where they surveyed their readers for their predicted best 10 stocks for 2019. The list held few surprises comprising of CSL, APT, BHP, MQG, ALL, APX, ALU, CBA, WPL and RIO in order of votes – out of interest we currently own ALL, APX, CBA and RIO.

However what really caught my eye was the top 3 from last year were also CSL, APT and BHP who all enjoyed a good year especially when compared to the index which slipped lower. My “Gut Feel” is it won’t be so “easy” this year, I’m more inclined to look at overly battered stocks who  have gone too far. Also, we saw in 2018 the difference a few months can make when CSL and APT fell 26% and 55% respectively in Q4. Not surprisingly we like the quality of the picked 10 stocks but in a few instances the price / valuation is not compelling.

Today we are going to give you our favourite 3 battered stocks from a risk reward perspective from the above losers.

NB One of our filters is to avoid stocks with over a ~7% short position – remember these professional traders have a habit of accurately sniffing out trouble ahead, we are looking for stocks where the trouble is largely behind us and they are attractive from a risk reward perspective.

Back in late November we allocated 9% of the Platinum Portfolio  into 3 growth stocks we liked who were being hammered with the mass selling of the high valuation sector i.e. Appen, Altium and Xero. This has proved very successful to-date and we are considering doing something similar in Q1 with stocks who struggled badly in 2018 – the key questions are which one (s) and what do we expect a solid bounce or a total turnaround i.e. we need an exit strategy before purchase. Remember “plan your trade and trade your plan” – an excellent investing slogan.

1 Sims Metal (SGM) $10.95

SGM has endured a torrid 6-months falling by over 45% as earnings momentum has continued to disappoint the market.

Technically we feel the recycling business has fallen too far and its valuation and yield are fairly attractive.

MM likes SGM targeting ~20% upside while running a stop below $10.20 i.e. solid 3 : 1 risk / reward.

Sims Metal (ASX: SGM) Chart

2 CSR Ltd (CSR) $2.95

The old “sugars” has been smashed of late as the market has flocked away from buildings product manufacturers. However with an estimated P/E of under 8 for 2019 we have to question if any sellers remain following the stocks 55% correction.

Building is a cyclical business which is illustrated by CSR’s huge trading range between ~$1 and $6. When I look around my area (Balgowlah Heights in Sydney’s Northern Beaches), there is a clear trend towards renovation or complete re-build instead of selling in a weak market. A lack of confidence in a potential sale price means there is less confidence to buy and volumes subsequently dry up – it’s a risker proposition at the moment, and seems far easier / safer  to renovate or rebuild. That is one positive for building suppliers from a skittish housing market.  

The company recently sold its struggling Viridian Glass business for over $150m providing much needed cash for CSR during the current housing construction downturn. Buying CSR ahead of better US exposed Boral / James Hardie contradicts our view on the Australian consumer but this is an elastic band which is stretching fast.

Technically CSR looks likely to break its 2018 $2.62 low but we will be watching carefully if this does unfold for a potential aggressive buy.

CSR Ltd (ASX: CSR) Chart

3 Estia Health (EHE) $2.13

EHE is a leading provider of aged care services but a combination of bad performance followed by the September announcement of an aged care royal commission has smashed the previously loved stock, along with competitors Japara and Regis. We all saw the damage a royal commission had on the banks / financials so we are looking to be very fussy on entry with EHE but while investors are scarred we are watching carefully. The hearings  commence on the 14th February and the interim report is due in October and finished by April 2020, so again no hurry.

The obvious question is,  how much is already built into the battered stock price?  In the bigger picture I can see the stock flourishing in the years to come, its all about where to be a hero, or fool!

We are considering buying if the stock breaks under $2 and then if / when it rallies back over $2.06 using the previous low as a stop – not one for the timid.

Estia Health (ASX: EHE) Chart

3 MM’s likely actions in January / February

We’ve been fairly active over recent weeks slowly increasing the cash position in our Platinum Portfolio to 20% i.e. we followed our plan from December to increase cash levels into strength although the market did fall further / faster than we expected.

We are looking for choppy upside moving forward to further enable us to reduce market exposure into strength but also potentially pick up some short-term bargains into any corrections.

Our 2 most likely next sells at this stage are:

1 – Our iShares Emerging Markets ETF (IEM) around 3% higher.

2 – Western Areas (WSA) around $2.40, around 10% higher but this stock can motor and nickel was very strong last week.

While our most likely buy at this stage is Star Entertainment (SGR) around $4, last week the stock fell 7% bringing our target into striking distance – see chart of the week.

**Note – we hold the IEM listed in Australia however use the EEM as a proxy given the chart has more clarity**

Emerging Markets (EEM) Chart

4 Watch gold carefully in 2019

The actions of China towards trade and the Feds potential willingness to ease their rate of interest rate hikes makes us believe that we could easily see an inflation breakout in the not too distant future – global Central Banks are scarred to let their economies slow while the GFC is fresh in people’s minds.

Gold stocks have benefited from recent market uncertainty with the local sector also enjoying the huge tailwind of a weak $A. However as we saw on Friday night in the US when stocks gained 1.3% it was bad news for the safe haven gold which fell over $US10/oz.

Last week while the ASX200 continued its recovery Newcrest (NCM) fell while most other gold names underperformed. MM is looking for the gold sector to struggle in Q1/Q2 if stocks continue the choppy recovery we expect.

MM is looking to buy 1 or 2 gold names in the coming months i.e. we anticipate being overweight.

Market Vectors Gold ETF Chart

5 The $US is finally on track.

We  remain bearish the $US targeting a ~3-4% decline in the short-term, back towards its late September lows. We’ve held this view for well over a month and things are slowly unfolding as we expect.

The $US still feels like its “hanging in there” because of recent volatility in US stocks and ongoing uncertainty around a trade war, not a reason to chase the $US in our opinion – both of these supports are slowly slipping away.

Also, the $A has hit our mid / high 60c targeted area perfectly and we wouldn’t be surprised to see 80c in 2019 – MM remains very wary the crowded US earners trade this year.

$US Index Chart

The Australian Dollar ($A) Chart

Conclusion

We remain mildly positive short-term targeting a choppy advance through Q1 however a  decent pullback is well overdue- our best guess eventual upside target is ~6000.

On the stock level, we are considering the following;

Selling: Emerging Markets (IEM) and Western Areas (WSA). – both at higher levels.

Buying: Star Entertainment (SGR), Sims Metal (SGM) and Whitehaven (WHC).

Chart of the week.

We have been “stalking” SGR since we took a healthy 20% profit on our previous holding at significantly higher prices.

The technical are lining up on SGR with a wave equality target at $4.10 and “abc” target at $3.98.

MM is considering buying SGR into weakness towards $4.

Star Entertainment (ASX: SGR)Chart

Investment of the week.

Firstly, we have SGR which is outlined above, our buy target is only ~4% away for the stock which fell almost 7% last week.

Secondly, MM still likes WHC technically and fundamentally targeting over $6 / 25% upside.

MM likes WHC targeting over $6.

Whitehaven Coal (ASX: WHC) Chart

Trade of the week.

Perpetual Ltd (PPT) $33.35

PPT is amongst the worst performing stocks last year – the wealth managers. Technically PPT looks set for a bounce towards the $36 area minimum – only 8% higher not overly exciting.

However we see 8% upside while a stop can be run under $32.50 which makes the risk / reward ok – one for the active trader.

Perpetual Ltd (ASX: PPT) Chart

Our Holdings

Our positions as of Friday. All past activity can also be viewed on the website through this link

Weekend Chart Pack

The weekend report includes a vast number of charts covering both domestic and international markets, including stock, indices, interest rates, currencies, sectors and more. This is the engine room of our weekend analysis. We encourage subscribers to utilise this resource which is available by clicking below.

Have a great day!

James & the Market Matters Team

Disclosure

Market Matters may hold stocks mentioned in this report. Subscribers can view a full list of holdings on the website by clicking here. Positions are updated each Friday, or after the session when positions are traded.

Disclaimer

All figures contained from sources believed to be accurate.  Market Matters does not make any representation of warranty as to the accuracy of the figures and disclaims any liability resulting from any inaccuracy.  Prices as at 20/01/2019

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