Market Matters Report / Market Matters Weekend Report Sunday 7th April 2019

By Market Matters 07 April 19

Market Matters Weekend Report Sunday 7th April 2019

Market Matters Weekend Report Sunday 7th April 2019

Last week we saw the ASX200 rally strongly into a fresh 2019 high on Wednesday at 6287, only for all the weeks gains to be relinquished over 2-days of aggressive selling into Friday. The obvious question is “Has the sentiment changed for local stocks, at least for a few weeks?”. The markets 107-point rally followed by 118-popint decline feels like an intermediate top to us especially as it was not influenced by overseas indices who actually enjoyed another strong performance e.g. Dow Jones +1.9%, NASDAQ +2.7%, German DAX +4.2%, Japanese Nikkei +2.8%, China’s Shanghai Composite +5% but the ASX200 finally finished the week off unchanged.

Under the hood exactly 50% of the ASX200 closed down for the week with most of the red ink occurring in the Energy, Retail, Transport, Utilities and Real Estate sectors – the “yield play” group of stocks struggled as bond yields bounced, albeit only slightly. We saw the winners circle of stocks, which rallied over 5%, outstrip the equivalent losers by 19 to 7 with the Diversified Financials catching my eye amongst the strong performers i.e. only Challenger (CGF) declined from the 14 stocks in the sector.

MM has been looking for a 6000-6300 trading range for this the second quarter of 2019 and following  last weeks strong rejection from 6287 (close enough to 6300) we are now short-term bearish initially targeting test of March’s 6095 low.

However, the feeling is very similar to early January, but in reverse:

1 – At the start of 2019 we called the 963-point decline by the ASX200 since August 2018 to be complete with an initial upside target of 5775, the view proved correct but clearly too conservative!

2 – Similarly we now feel the 877-point rally from Decembers 5410 low is likely to be complete which target’s an initial downside target of ~5952, less than 4% lower.

Following MM’s purchase of Sims Metal (SGM) we are now holding a 23% and 13% cash position respectively in our Platinum & Income Portfolios, this will enable us to be active on the buy side if / when opportunities present themselves.

ASX200 Chart

However it’s important for subscribers to understand MM is only short-term net bearish – remember in November / December when we became “properly” bearish the cash position in our Platinum Portfolio at times effectively was above 50% courtesy of some negative facing ETF’s.

At this stage MM is looking to buy into decent weakness over the coming weeks.

The chart below shows the ASX200 Accumulation Index is testing its influential upside trendline but as can be seen by the last 3 meaningful tops investors should not assume rejection will be a quick process.

Overall we still believe stocks can go higher but in an ever increasing choppy / volatile manner i.e. in the last 7-months we’ve already seen a fall of 15% and a rally of 16%, an exciting environment for the active investor.

ASX200 Accumulation Index Chart

The US NASDAQ has now appreciated ~750% since the GFC and we are confident that this mature bull market is closer to its end than beginning but that’s just a tongue in cheek throw way line which won’t make anybody decent returns.

More specifically MM maintains its target of the 8000 area, or 5% higher. Don’t be surprised to see our portfolios migrate to higher cash levels if / when the NASDAQ reaches this new milestone.

US NASDAQ Chart

Continuing on with our focus on the massive company buybacks which have fuelled equity markets over recent years and so far looks likely to continue with Bank of America recently suggesting that we may easily see another record year.

Hence the health of the “junk Bond” market remains a huge indicator for US stocks in 2019 /2020 as this is where much of these funds are raised for these huge buybacks. The chart below shows US corporate bonds are making fresh 2019 highs indicating that the S&P500 should remain strong, at least short/medium-term.

NB Since 2015 junk bonds have either led or accompanied all the meaningful declines in US stocks as they are a great representation to the degree of liquidity which be definition is required for stocks to rally.

US S&P500 v iBOXX high yield index Chart

The below chart is another beauty from Tom McClellan who is one of many, many market pundits we read daily – copious amounts of reading is one thing we have in common with Warren Buffett who is actually said to devote 80% of each day to reading!

The open interest of the VIX has remained low while the markets soared in Q1 of 2019 implying investors are not yet adjusting their positions for the aggressive new uptrend. Historically when the total open interest numbers stay low into a new uptrend, its meant to mean  the advance has a lot longer yet to run.  The risk of a meaningful top usually only occurs after the open interest numbers start to rise and climb up well above the 200-day moving average – red line. 

The VIX’s open interest is implying the uptrend which began in late December should have a longer to run.

US S&P500 v VIX open interest Chart

Stocks, Sectors & ideas that have caught our eye.

No change in our underlying view that we remain bullish stocks into 2019, basically until the “Junk Bond” market starts rolling over but we feel April / May are likely to be more muted and choppy than Q1.  In a market that had ended the week with a move of under 1-point some of the below may have some similarities to last week but we continually tweak our views and plans so don’t assume a similar chart implies our opinion hasn’t evolved, or totally morphed in a different direction.

1 Bond yields have fallen ahead of interest rates.

Not surprisingly relatively short-term Australian 3-year bond yields have a very close correlation to the RBA cash rate and as can be seen clearly from the below chart they usually only trade below the official rate prior to interest rate cuts.

Last week the local 3-year bond yields dipped below the cash rate as many economists & fund managers now believe the RBA will be forced to cut rates from their already historically low 1.5% to 1%, with the need to stabilise housing prices as the most commonly cited reason.

AT MM we believe there is a strong likelihood of lower rates in 2019 / 2020 but we should not underestimate the RBA’s apparent comfort with todays rate.

The RBA Cash Rate v Australian 3-year bond yields Chart

Going back to one of our reports this week : the “yield play” stocks have revelled in post-GFC low interest rate environment – even today bond yields are negative in Germany.

Markets look 6-months ahead is a general rule of thumb which is why the Australian 3-year bond yields have fallen below the RBA cash rate. This will reverse at some time moving forward when investors become more confident in our economic outlook, in our opinion this will be the time to be underweight / get out of the “yield play” group of stocks.

MM has no interest in the “yield play” sector this late in their cycle.

Australian 3-year bond yields v Transurban (TCL) & Sydney Airports (SYD) Chart

2 The banks & franking credits

That vital ingredient called earnings are looking poor for the Australian banks with mortgage focused banks Westpac (WBC) and Commonwealth Bank (CBA) having forward earnings expectations down 10% on a year ago.n Plus any interest rate cuts moving forward by the RBA are likely to be tough on bank margins hence we remain cautious the sector both fundamentally and technically – MM is considering reducing our exposure following the sectors strong bounce from Decembers low.

If the banking sector were to break under 2018 lows we want to be aggressive buyers not concerned overweight holders.

From a timing perspective we are saying the impact of falling bond yields will create  a top in the “yield play” sector and perhaps a floor in the banks in 2019 / 2020 but in both cases we might not be there just yet – we feel in both cases their respective moves are very mature, especially on a relative performance basis.

Westpac (WBC) Chart

The banks have delivered excellent fully franked dividends since I can remember but a likely new Labor government is planning to ruin this financial party.

Martin Crabb our CIO at Shaw & Partners is somebody I respect and he recently completed some work on the value impact of franking credits – his conclusion was a loss of franking would hinder the markets return by ~1.6% pa, a massive hit to our markets performance over a long-term compounded basis.

While the market is expecting a Labor victory in May perhaps the future implications will gather some steam over the next few weeks, hard to see the ASX200 outperforming short-term unless we see the polls swing dramatically back towards the Liberal Party.

3 Three stocks MM are watching carefully.

Following on from our purchase of Sims Metals (SGM) on Wednesday which took our Platinum Portfolio’s cash position back to 23% there are 3 stocks we are pondering on top of reducing our overweight  banking exposure which we have touched on above.

1 – ResMed (RMD) – We are becoming concerned with ResMed (RMD) especially as it has $US earning exposure which we believe will become a headwind to earnings. We may take our $$ earlier than originally anticipated.

2 – BlueScope Steel (BSL) – We like BSL but have refined our ideal buy area back towards $13.50, one to watch if the ASX200 corrects as we anticipate.

3 – Aristocrat (ALL) – We have been holding ALL since September and it’s been underwater for much of the time but the stock looks poised to rally towards $27.50, or 9% higher – we are contemplating averaging.

ResMed (RMD) Chart

BlueScope Steel (BSL) Chart

Aristocrat (ALL) Chart

4 The resources remain the new ASX’s rock.

The “Big 3” iron ore stocks BHP Group (BHP), RIO Tinto (RIO) and Fortescue Metals (FMG) have enjoyed a phenomenal run in Q1 2019 largely assisted by the awful Vale tragedy in Brazil which has almost doubled the price of the bulk commodity. This year, iron ore miners 1-year forward profit expectations are up close to 30%, everything else is down over 2% -  simply the profit rally of 2019 is more than 100% iron ore.

A few weeks ago we called FMG a trading sell ~$7 which looked  good after it dropped 13% in under 2-weeks but we were wrong as the stock punched through $7 – we have no sell signals on FMG. However, iron ore reached our targeted area last week and while, like FMG, there are no sell signals at present we would be very cautious chasing the relevant stocks at current levels.

We are now neutral the iron ore stocks at current levels.

Fortescue Metals (FMG) Chart

Iron Ore Active contract

5 Any signs from the growth stocks?

The Australian growth stocks are characterised by the Software & Services sector which includes the likes of high flying Appen Ltd (APX), Afterpay (APT) and Wistech Global (WTC) – we bought this sector well in late 2018 but underestimated how fast and hard it would rally. However technically the Software & Services index has now basically reached our target area moving us to a neutral / bearish stance.

On the stock level we have now lost interest in most companies on a risk / reward perspective at current levels but into weakness a few will become interesting i.e. Technology One (TNE) under $7.50, Xero (XRO) under $47 and Appen (APX) around $20.

ASX200 Software & Services Sector Chart

Xero (XRO) Chart

Conclusion

Short-term on balance we believe the ASX200 is set to retrace back towards the 6000 area.

We remain mildly positive medium-term targeting a choppy advance through 2019 until we see weakness in the “junk bond market”.

We believe stocks / sectors that benefit from lower interest rates as opposed to a strong Australian consumer will continue to outperform for at least a few quarters.

Sustainable dividends are likely to remain on many fund managers menu as we head into Q2 of 2019.

Chart of the week.

We have been “stalking” SGR for months with an ideal purchase level around $4. We have not pressed the “buy button” just yet because it hasn’t felt quite right but its well and truly on our radar moving forward.

MM remains interested in SGR around $4.

Star Entertainment (SGR) Chart

Investment of the week.

Household name Facebook (FB US) has been an underperformer during the strong recovery by US stocks, we can see this changing as fund managers look to chase perceived “undervalued / cheap” stocks.

MM likes Facebook with stops below $US166 – under 6% risk.

Facebook (FB US) Chart

Trade of the week.

Hearing implant company Cochlear (COH) has been an investors favourite over the last decade but its lost its lustre after reporting weaker than expected results earlier in the year.

We still find the P/E of 35.8c Est 2019 earnings to be rich and the market feels long implying surprises may be on the downside, as they have been over the last 12-months.

MM will only be interested in COH around A$140.

Cochlear (COH) 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 6/04/2019

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