Market Matters Report / Market Matters Weekend Report Sunday 27th January 2019

By Market Matters 27 January 19

Market Matters Weekend Report Sunday 27th January 2019

Market Matters Weekend Report Sunday 27th January 2019

Happy Australia Day for yesterday – a cracking day and now a long weekend to boot!

The ASX200 enjoyed another positive week but the +0.4% gain was certainly the smallest since Decembers 5410 low, in fact the index was down for most of the week until Fridays strong performance. Under the hood Retail was the strongest sector supported by Consumer Services and Energy while weakness was more stock specific as some popular names failed to deliver on elevated market expectations. Last week we saw a total of 7 stocks rally / fall by over 10%.

Winners: Costa Group (ASX: CGC) +11.3%, Super Retail Group (ASX: SUL) +11.6% and Harvey Norman (HVN: ASX) +11.7%,

Losers: Challenger (ASX: CGF) -18.9%, AMP Ltd (ASX: AMP) -12% ResMed (ASX: RMD)-12% and Northern Star (NST: ASX) -15%.

I simply can’t remember a week in recent times when we saw Harvey Norman (HVN) / Super Retail Group (SUL) outperform ResMed / Northern Star by close to 25%! The market felt a touch tired last week which is no surprise following an uninterrupted 505-point / 9.3% 5-week rally. Also we note when a market is dragged higher by the index laggards e.g. Retail it usually indicates the move is in its maturity and a pullback is close to hand.

The recent MM call that the ASX200 was set to correct its entire 963-point / 15% decline is clearly on the money with our best guess at what comes next largely unchanged:

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

2 – Considering the decline took 18-weeks to unfold we still expect the current aggressive 5-week correction to last at least another month but probably not with the same recent momentum.

If we are correct short-term, which is usually the most tricky due to market / news noise, we currently see 2019 evolving as below hence solid opportunities to add value (alpha) in both directions.

ASX200 Chart

The sentiment around the US – China trade war continues to improve and optimism is being supported by the arrival of a Chinese delegation to Washington next week. Positive expectations were particularly reflected on Friday in the Emerging Markets with the Hang Seng surging 1.65% while the futures are suggesting another +0.6% can be expected on Monday morning.

We have been long an Emerging Markets ETF since September and the current ~10% rally from November lows is what we had been targeting.

MM anticipates taking profit on our IEM Emerging Markets ETF position on Monday.

Hong Kong’s Hang Seng Index Chart

The US Dow Jones has rallied well over 3000-points from its late December low in similar fashion to our own ASX200.

The short-term picture is evolving very similar to our own index, we are now looking for a 800-point / 3% correction in the Dow in the short term.

Hence we would rather increase our cash levels a touch further with a view to increasing market exposure at lower levels.

NB We will reiterate a few stocks we are targeting at lower levels later in todays report.

US Dow Jones Index Chart

US bond yields remain the key for us in 2019

Junk bonds are corporate bonds which are highly correlated to the share market and importantly for us often a leading indicator.

When companies want to borrow money they often issue bonds and the higher the price / lower the yield obviously the better it is for the issuing company. An unhealthy bond market is bad news for equities as it results in companies having to pay higher interest rates on fresh debt issuance – this would for example more than likely see a damaging reduction in company buy-backs, a huge market tailwind over recent years.

As you can see below the Advance – Decline ratio of high yielding bonds (measure of strength) had already turned lower prior to the January 2018 equity tantrum and failed to recover before the November / December aggressive correction – traders that used this filter would not have been aggressively long stocks over these periods – the January example is copybook stuff.

However while the press is full of experts worrying about US bond markets moving forward the charts are telling a very different tale – the current strong A-D line (red below) implies liquidity is fine and is generating a buy signal for stocks by breaking strong above its moving average (blue line).

This supports our view that equities will grind higher at least in the early months of 2019. Hence if we see a pullback as MM expects over the coming weeks expect to see some buy alerts.

US Junk Bonds v the S&P500 Chart

1 What’s the next “bad course” after the entrée we experienced in 2018

Last year we saw some massive volatility in global equity markets because investors / fund managers simply had too large a position all facing the same way – the respective views may yet prove to be reasonable but they couldn’t cope with the momentum that unravelled when stops started feeding on themselves.  Decembers selloff was clearly an aggressive one and had capitulation style characteristics.

1 – The market had complacently been holding a massive short volatility position through 2017 and the chickens finally came home to roost in January / February 2018. In 2-weeks we saw volatility soar from sub 12% to over 50%, a 400% increase which totally wiped out some volatility funds in the US.

2 – Similarly in Q4 of 2018 the market had amassed a massive short US Treasuries position, in anticipation of higher interest rates, these holdings lead to a dramatic unwind in Q4 when market players started forecasting a global recession in 2019/2020 implying lower, not higher, interest rates. The markets 100 degree about turn on interest rates forced a stampede for the exits to close / reverse their positions sending the Dow plunging over 5000-points in quick time.

We are now asking what will be the next straw that breaks the markets back. Our view is the increasing wage pressures in the US will be the likely cause of another outbreak in volatility / drop in stocks probably in the next Australian Financial Year.

Volatility / Fear Index (VIX) Chart

US average wage gain grew in December at 3.2%, well above the forecasted 3% plus US employment data also came in much stronger than expected – what recession? Perhaps the Fed is ahead of the market on this one and they are clearly worried about wages / inflation moving forward, not a recession – we agree with them that this is a major market risk.

At MM we will be watching wage growth / inflation very closely as we evaluate when / if this will be the next cause of inflection for equities, especially as we are looking for an optimum time to establish a meaningful gold exposure.

It feels like the global economy is balancing on the top of a triangle with one side a recession and the other damaging inflation – when and in which direction is the million dollar question!

Overnight we saw gold rally almost $US20 but this was not due to inflation fears but because of a weak $US as worries around a US-China trade war fade, in $A terms golds rally was far more muted because the $A gained 1.2% against the greenback.

Gold in $US Chart

2 Be wary of crowded trades in 2019

Last week we saw a few market darlings absolutely clobbered, led by ResMed which fell by 12% on Friday.

The issue is simple, if a market is essentially  “all aboard the train” there’s very little support if we just get a sniff of average news, let alone bad. Even after Fridays fall RMD is trading on Est P/E for 2019 of 28.6x, not cheap compared to the market but interesting compared to some in the sector e.g. Cochlear (ASX: COH) over 40x for 2019.

In the case of RMD the stock was trading at all-time highs into Fridays announcement thoroughly fitting that commonly used phrase “priced for perfection”. In 2018 we saw a number of stocks simply keep rising as chasing growth became as popular as chasing yield was back in 2015/6 – just before the untouchable CBA fell over 30%.

Our message is be prepared to take profits this year, don’t worry if the stock rallies after we sell - if we are correct the RMD story will not be an isolated case in 2019.

Remember markets gave us a warning in late 2018 e.g. CSL -25%, Cochlear -30% and Afterpay -55%.

In the case of RMD we are targeting the $13 to $13.50 area to buy the stock.

ResMed (ASX: RMD) Chart

Another stock which had a tough time at the office last week was gold miner Northern Star (ASX: NST) which closed down 15% over the 5-days.

Look at the chart patterns for RMD above and NST below, they are eerily similar, with both selling off hard are making marginal new highs. In our view, technical analysis is an important part of the decision making process – its hard to believe that a lot of investors don’t utilise it.

We are currently looking to buy NST around $7 – a target we held before last weeks plunge.

Northern Star (ASX: NST) Chart

3 Is the Retail bounce the sign of a bottom?

Last week we saw some excellent strength from the retail sector with all 9 of the AX200 closing in the green with the average gain well over 4%.

We discussed in the last Weekend Report that this year we are likely to see a number of huge underperformers shine after a tough few years in the wilderness but of course it’s a bit like looking for a needle in a haystack and I’m not convinced its time to stand up and buy retail.

This sector is all about housing prices and confidence, when we see stability return especially in Sydney and Melbourne house prices, we should see appetite return to the potentially cheap discretionary retail space e.g. Harvey Norman (HVN) is only trading on a P/E of 11.7x Est earnings for 2019 while yielding over 8% fully franked BUT this is if you believe the earnings estimates will be met.

However we must always remember that stocks generally run 6-months ahead of news so there will be plenty of people watching auction clearance rates and household debt levels extremely closely for an end to these sector headwinds.

Retail not surprisingly has a major footprint in the list of most shorted stocks including JB HIFI (JBH) 16.3%, Harvey Norman (HVN) 9.6% and Super Retail (SUL) 9.3%. Hence a few brief spikes higher can be expected when these positions are trimmed back – it will be aggressive if they are wrong!

At this stage with a muted housing market (we don’t expect a crash as some are calling) and high household debt we see no reason to be a hero and buy the Retail Sector yet.

Harvey Norman (ASX: HVN) Chart

4 The $US is on track.

MM remains 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 now unfolding as expected, on Friday night the weak $US sent commodities up strongly e.g. Gold +1.4%, Crude Oil +1% and copper +3.2%. This raises the question that if we are correct and the $US does continue to pullback should this cause a nice spike higher in Australian resources – I think it probably does.

The $US still feels like it’s just “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 as we saw at the end of last week.

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

5 Update of 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 before that.

We continue to look 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 now:

1 – Our iShares Emerging Markets ETF (ASX: IEM) potentially on Monday.

2 – Challenger (ASX: CGF) into a bounce towards $8.

Emerging Markets ETF (ASX:IEM) Chart

Our basket of stocks on our buy radar include:

Macquarie Group (ASX: MQG) – although this is a US earner so would only be a short term play around earnings results,  NIB Holdings (ASX: NHF), Pact Group (ASX:PGH), CSR Ltd (ASX: CSR), Sims Metals (ASX:SGM,)Northern Star (ASX: NST), Whitehaven Coal (ASX: WHC), Costa Group (ASX: CGC), Star Entertainment (ASX: SGR), ResMed (ASX: RMD), Vocus (ASX: VOC) and CIMIC Group (ASX: CIM).

Obviously with our preferred scenario a reasonable correction for stocks in the next few weeks ideally we will be looking for optimum risk / reward buying opportunities into weakness.

Conclusion

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

As point 5 explains we can see ourselves becoming active in the weeks ahead starting with the potential sale of our Emerging Markets ETF (IEM) on Monday.

Chart of the week.

An unusual one for this section of the report but we don’t want to become a one trick pony! This property and funds manager has traded sideways for a while but when you’re yielding 7.25% (unfranked) who cares!

We are bullish CMW eventually targeting a test of $1.30 providing solid risk / reward in our opinion – potentially one for our Income Portfolio.

MM likes CMW at current levels with stops below 99c.

Cromwell property (ASX: CMW) Chart

Investment of the week.

We have been a touch frustrated recently identifying stocks  like Costa Group (CGC) and Star Entertainment (SGR) to buy only to see them pop higher before we pressed the buy button. Reminds me of something I often quote but forgot to implement myself!

“If you only buy weakness you’ll always get set when your wrong but will miss some of the best / explosive rallies when you’re right”.

Conversely I am looking for a ~3% pullback so it’s time for balance.

MM likes SGM around $9.75.

Sims Metal (ASX: SGM) Chart

Trade of the week.

Vocus has appeared in this position more than once over recent years but I’m particularly excited about today’s risk / reward.

We are bullish VOC targeting the $4 area with stops at $3.14 – excellent 3-1 risk / reward.

MM likes VOC here for a trade with stops below $3.14.

Vocus (VOC) 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 26/01/2019

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