First a Brexit vote followed by a Trump card and on both occasions the
market reaction has essentially been the opposite to what was expected.
Life is seldom dull as a broker. Markets were tipped for large falls and while
share prices fell heavily for 2 days post the Brexit vote, large scale recovery
also expected to drop dramatically in value and neither have materialised.
Infact, the polar opposite has ensued; well thus far at least with the Dow
Jones and S&P 500 indices pushing to new all time highs as I write.
Time and again the consensus or most widely held views and predictions
for market direction are proved to be wrong. Indeed this is largely why and
how contrarian fund managers and stockbrokers, (those that go against the
herd) make their strategic investment calls. I suppose if calling the market
were that easy, we would all be millionaires.
While the FTSE 100 index has been trading largely sideways for a few
months, what has been of interest of recent is what we have seen in terms of
the relative share price performances of the constituents within the index.
from its slumber and that is the financials. Since the Trump victory there has
developed a seismic shift in the expectation now for rising inflation and
corresponding increases in interest rates (in the US primarily). Accordingly we
have seen big falls in the prices of overbought bonds (where prices move in
the opposite direction to the (expected) movement in rates). We have also
seen large falls in the prices of so called equity “bond proxies” in the form of
defensive companies which have been bought aggressively to high valuations
through sluggish economic times as their cashflows are seen as well
insulated.; here I refer to the tobacco, utility and consumer staple areas to
include companies such as Unilever and Diageo.
Conversely we have seen the share prices of banks notably rising quickly
as banks make more profit when rates increase. The post credit crisis low
interest rate environment that we have been living through over the past
7-8 years has kept the appetite for financial stocks low. This is now
changing before our eyes. “ Value” shares as they are referred to in the
business are those that have been unloved with good reason, are arguably
mispriced but that await a catalyst for becoming attractive again. The
banking sector is and has been “value” personified and a sector which
contrarian stock pickers have bought and patiently held for some time.
Insurance stocks are also now joining this cyclical party with Aviva (485p) for
example, up over 10% in the last week alone. Other economically
correlated (non defensive) sectors such as miners have been trading
strongly also. Whether or not interest rates do rise as predicted, only time
will tell. Genuine economic progress will remain key in this regard. Perhaps
the current uplift in the financial space will prove to be ahead of itself and
short-lived. Maybe investors should now be looking carefully at the recent
underperformance in the defensive sectors as buying opportunities.
Different views always persist and this is of course what makes the market.
It seems likely to me that the market will now trade steadily and healthily
through until the end of the year on low volume; it is the time of year for it.
The New Year will thus be the logical back to the drawing board reassessment
period. The uncertainty relating to US policy under a new President, similar
the unfolding reality of Brexit, ongoing European political and economic
anxiety, the oil price and the outlook for the unpredictable Emerging Markets
will all be some of the factors to carefully evaluate as investors into 2017.
Stock specific comment
Vodafone (195p) is trading near 3 year lows yielding a growing 6% annual
income going forward. I believe it has been unfairly shunned over the recent
past, viewed perhaps as a bond proxy as it does have utility type
characteristics. The stock looks expensive at first glance based on its market
value relative to its profits but stripping out significant cash balances, the
enterprise value is reduced hugely. Much hope has been placed on its plans
for an Indian presence and there are competitive risks to this area. With much
of the company’s large-scale capital investment outflows behind them,
with the stock looking low and directors have been buying, taking advantage
of the weak price. It has been pleasing to see the stock hold above the 189p
3 year technical support level. My target is 225p over the next 6 months.
Somewhat curiously large cap pharmaceutical stocks to include GSK (1460p)
and AstraZeneca (4060p) have sustained material share price falls since the
summer highs. Back then their dollar earning capabilities had catapulted
them quickly to annual highs although they did appear overbought. I parted
company then with most of my holdings then but now around 20% lower,
the valuations are much more appetising again with income yields at around
5.5%. A Clinton administration had previously been flagged as less supportive
for the sector than a Trump; this should be a relative boost yet the stocks
have continued to drift even with FX rates not materially different to those of
the summer. While drug pricing remains somewhat under the microscope,
my suspicion is investment opportunities have once again appeared with
both stocks seemingly finding support at current levels.
To conclude, the 2 weekly 20% rally in the oil price facilitated by an OPEC
supply cut puts oil @$53.50 per barrel. Petrofac (820p) has lagged the
performance of the oil services sector as a whole and it is now in my sights.
A well covered 6% forward yield lends support to the investment case and
improved markets for 2017 seem a fair bet. The stock is undoubtedly volatile
and was trading at 950p as recently as mid October. Assuming oil is back trading
north of $50 and can maintain such levels, I would hope the company has
new contract potential. Not for widows and orphans despite it’s commanding
near £3 billion market value, my target is 925p over the next 3 months.