Looking ahead to the Aussie equities sector in 2019, Money & Life asks Dougal Maple-Brown for his thoughts on how this asset class will hold up over the next 12 months.
How do you think Australian equities will track in 2019?
In our view, Australian equities are likely to track sideways over the next 12 months. We believe the market is a touch expensive, as a whole, and indeed, there are pockets of the market that are very overpriced.
What are the key themes likely to shape Aussie equities in 2019?
We are of the view that interest rates are likely to rise over the medium and longer term, and this is likely to prove challenging for most asset classes, including Aussie equities.
However, at least in a relative sense, it is likely to be supportive to our portfolio performance. Recent years have seen increasing divergence in pricing between the ‘value’ and ‘non-value’ names.
One of the key drivers of this shift has been an unprecedented decline in interest rates, which has seen many of the lower risk and yield sectors, including health care, transport and REITs, outperform strongly. Growth stocks have also benefited substantially, with low discount rates increasing the present value of their long-dated earnings.
We believe the global macroeconomic environment remains supportive and that expectations for interest rates will continue to appreciate. We remain underweight to many of the highly rated growth and yield names, which we believe are still trading on excessive multiples and will tend to underperform in a rising rate environment.
What impact will global and/or geopolitical uncertainties have on the Australian equities market?
As bottom-up stock pickers, we focus on valuations of individual companies, rather than trying to predict the impact of geopolitical uncertainties. That said, given our view that valuations are generally high, it would not surprise us if such an event, or series of events, might cause a correction on equity markets.
When allocating to Aussie equities, what are the key considerations investors should be making in their investment portfolio?
Given our view that the Australian equity market is likely to track sideways, then your return is expected to be limited to dividends. In this regard, the Australian equity market looks reasonably well placed and on our numbers, is forecast to yield approximately 4.5 per cent on a cash basis over the next 12 months and almost 6 per cent when you include the benefit of franking.
Aussie equities are looking overpriced. Where are you seeing opportunities for investors?
Whilst the market looks expensive overall, there is significant variation within it. Recent years have seen increasing divergence in valuations amongst the out-of-favour value names and the more expensive yield and growth segments of the market. This has created pockets of the market that we believe offer compelling value.
Looking to the key sectors, we believe resources remain attractive. Whilst strong performance over the last two years has moderated some of the extreme mis-pricings, the sector still rates well on most value metrics.
The heavily discounted Telstra Corporation, whilst not without issues currently, offers defensive characteristics at an attractive valuation. Several of the general insurers, including QBE Insurance and Suncorp, have also underperformed and represent reasonable value. The banks have also underperformed over the last year, and in our view, represent broadly fair value.
In contrast, we observe certain segments of the market that appear extremely overvalued. These include the highly rated growth stocks such as CSL, Macquarie Group, Aristocrat, Treasury Wine Estates, Cochlear and A2 Milk.
Transport stocks, including Transurban Group and Sydney Airport, are also nearing record highs and property trusts look expensive. It is our view that these segments of the market will come under significant pressure, as interest rates rise from current record low levels.
Looking ahead, what are your three best high conviction positions and why?
Somewhat unusually, our highest conviction position is not holding a stock: CSL! After doubling over the last two years, we believe the stock is priced for perfection at almost 40x next year’s earnings.
Of the stocks held, our highest conviction positions remain our resource holdings. Although the stocks have done well from their lows in 2016, valuations still appear favourable to us. Therefore, we continue to hold BHP, Rio Tinto, Woodside Petroleum and Origin Energy.
Dougal Maple-Brown is Head of Australian Equities at Maple-Brown Abbott.
