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8th July, 2024
Our super funds made two things clear: rates are likely to be higher for longer and equities are back in fashion. We ask some stock pickers to name their calls.
Published in the Australian Financial Review on 8 July 2024. See the original article here.
Having done the rounds with super fund CIOs in the past week, we can confidently say two things: higher interest rates for longer is the consensus call and listed equities are back in fashion.
Our CIOs can all see rates are coming down in some parts of the world – Europe, Canada, for example – but none of them told us to expect any dramatic changes to either Australian or US interest rates this year, pushing the bulk of the rate cuts story into 2025.
They’re also holding firm on equities allocations, having done well in shares in FY24 and wanting to capture what is left in the rally.
While the CIOs shift asset allocation levers, they leave it to internal or external stock pickers to adjust equities portfolios.
So, how will stock pickers try to make money in this environment?
We’ve gone to a few of Australia’s top equities shops to find out, including four investors who manage money for the philanthropic Future Generation Australia or its sister fund Future Generation Global, both listed on the ASX.
Sage Capital’s Sean Fenton, a long/short investor, is avoiding Australian banks and retailers and buying travel stocks.
He thinks the RBA will keep rates on hold for the rest of this year in a bid to topple sticky inflation.
“The RBA may consider a hike or two, but it would be pretty tough to mount a case for cutting rates even though there are signs that the economy is softening,” Fenton says.
Fenton is steering clear of retailers, including blue chips Harvey Norman, JB Hi-Fi and Wesfarmers, and think the banks have run too hard.
“[The banks] rallied strongly last year on hopes of a rate cut and, despite increased competition, profits have been supported as they have released provisions for bad loans,” he says.
“However, rate hikes and only a small tick up in bad debts would leave their elevated valuations looking vulnerable.”
That underweight banks call is popular in institutional equities-land. Macquarie’s banks analysts were reiterating their underweight the sector call on Monday morning, agreeing the banks cannot grow off the low impairment charges forever.
For winners, Fenton is turning to asset-rich Baby Boomers who are fuelling takings at travel companies.
“The demographic that travels and has net assets – the Baby Boomers – benefit from higher rates. So travel, while in the consumer discretionary sector, is more resilient to rate hikes than banks or retailers,” he says.
He likes Flight Centre, Webjet and Qantas, which he says can also benefit from operational improvements.
Paradice Investment Management’s Tom Richardson, another long/short investor, reckons the market is pricing the likelihood of interest rate cuts appropriately: about a 50 per cent probability of a rate rise in Australia by September, and two cuts in the US this year.
He likes gold for its past performance in rate-cutting cycles, and bigwig Newmont Mining in particular.
“Following their acquisition of Newcrest last year, the world’s largest gold miner has a portfolio of long-life and low-cost mines,” he says.
“They are currently looking to sell some smaller mines which will de-gear the balance sheet and provide capital management options.”
He also nominated Block Inc, the US payments group that hit the ASX-boards when it acquired Australia’s Afterpay two years ago, which he says could win from those eventual rate cuts.
“While the investment is far from predicated on interest rate cuts, we would expect the company to benefit from increased consumer confidence and spending,” he says.
“The business has evolved over the past year instilling financial discipline across all units. We see a long runway for growth at an attractive valuation.”
Magellan Financial’s Nikki Thomas has a global portfolio. She thinks the Federal Reserve may cut interest rates just once this year or not at all, allowing the election to play out and recognising that economic growth is “still quite good”.
“Most indicators suggest to us that aside from some slowing among consumers, most of the cyclical parts of economies are bottoming or turning up,” Thomas says.
“This will accelerate if interest rates come down.”
She says her portfolio is invested between high-quality defensives (Colgate, Stryker, UnitedHealth, for example) which have growth prospects and resilience to a deteriorating economy or a black swan event, and structural growth companies like Microsoft, Amazon, ASML and Netflix.
Her stock picks, though? NYSE owner Intercontinental Exchange (ICE) and Amazon.
“ICE should benefit from ongoing good volumes in many of its markets,” she says. “The upside should come from its mortgage originations business where it acquired Black Knight and is building out a technology platform to automate mortgage origination. If rates come down, originations (which are virtually at a standstill as buyers wait for better rates) will return.
“Amazon is a structural winner in both cloud and AI as well as a business with significant margin potential in its US e-commerce operations as it leverages its scaled and now regionalised logistics capability.”
In small caps land, perhaps the most interesting and hottest contested part of Australian institutional equities, Eley Griffiths co-founder Ben Griffiths reckons the RBA will be reluctant to lift rates.
He says it is also OK if the RBA does not cut rates in the near term; the market’s happy to sit tight.
“Given the All Ordinaries Index is currently flirting with historic highs, now is not the time to lose resolve towards stocks,” Griffiths says.
“The market is now well conditioned for indefinitely high interest rates. We continue to own quality names with defensive earnings attributes to better withstand a more challenging economic conditions.”
He tips gold miner Capricorn Metals and funds management investor Pinnacle Investment Management Group as key stock picks.
Anthony Macdonald is a Chanticleer columnist. He is a former Street Talk co-editor and has 10 years’ experience as a business journalist and worked at PwC, auditing and advising financial services companies. Connect with Anthony on Twitter. Email Anthony at a.macdonald@afr.com
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