27 Feb Capital 19 Catch-Up

Weekly Index Movement

S&P500	-2.4%
Nasdaq	-3.7%
Aussie All Ords	-0.5%

The first quarter of 2023 is turning out to be a game of two halves.

Growth assets put in some fantastic returns in January. Tesla (TSLA) was up over 70%. Nvidia (NVDA) was up over 60%. Both are still down significantly on their all-time highs, but sentiment towards growth was positive.

That positive sentiment occurred because the market felt inflation was under control and the Fed would soon be done raising rates. Once done they would then cut them before the end of the year.

This was strange because the Fed themselves were saying – No, we are far from done. Rates are going to 5% and will stay there for a long time.

Then came signs inflation was not under control as I wrote about last week.

This week we learned inflation isn’t on a direct path to 2%.

The US uses a couple of different ways to measure inflation. The one the Fed looks at is Core PCE. This was released on Friday. This is what monthly changes look like

That makes it look like no progress has been made on inflation and is why we saw long-duration risk assets (think tech stocks) sell off last week.

But it isn’t all doom and gloom. They say you can prove anything with statistics and I say you can make a graph look any way you want.

Here is the same data but represented as a yearly change

Ok. So we have had a slight tick-up in January but it is still definitely well within a downtrend.

Monthly data points on wide economic numbers are always volatile and you cannot take any one print on its own. You must take them in the context of the whole and this shows inflation is coming back to where the Fed wants it. It will just take time to do so.

We all know that, so why is the market selling on the news?

Because that is just what the market does. Trade first. Think second. It is all very short-term thinking.

I have been expecting this move for a few weeks now which is why I have been saying to lighten up on positions or put a hedge in place.

It won’t last forever. This is just sentiment and that is always swinging around.

The market got too excited in January and early Feb and is just now correcting back to where it should be.

There probably won’t be a lot more selling and soon it will be time to buy. Get those shopping lists ready. Ideally, I’d like to see some decent-sized down days that will mark the end and ring the bell to buy.

Before I move on to what to buy, a few things caught my eye in Australia this week.

First was Labor tinkering with superannuation. They want to somehow cap those with balances over $3million. No definite plans yet, but if they do, they won’t win the next election. It isn’t that this move will affect a lot of people. It is that they will worry everyone with what is coming next. We all remember the disastrous idea by Bill Shorten to remove franking credits that lost him the election. Any tinkering will bring those memories back up.

I know it is hard to feel sorry for people with balances of over $3million in Super. But to get that much in, you have to earn a lot and that means you paid a lot of tax already in doing so. Labor really do want to re-distribute wealth and even us all out. Well, I have a proposal. Let’s change politicians’ super plan. After 8 years service, Albanese will get a pension equivalent to a super balance of $8million. How about we make everyone the same and politicians get the same super plan we do? They can contribute in the same way every other employee does and their pension should be whatever that accumulates to. If you want to make everyone equal, let’s start there.

This $3million idea is expected to save $1billion. I wonder how much could be saved if they made politician’s super the same as ours.

The other thing that caught my eye was profits. Or lack thereof.

BHP half-year profit was down 32% on last year and would have been a lot worse if not for its coal assets. Fortescue was down 15% on last year.

Both reduced dividends. Their problems are falling asset prices and rising costs.

Mining stocks will always be cyclical. You buy them low when it seems they have no future and sell them high when the future looks bright.

That bright future is already dimming.

How about my (least) favourite bank – Commonwealth?

I can’t quite believe it but CBA is the most expensive bank in the world. Yes they did post a massive profit up 10% on last year and increased their dividend to $2.10 on a 70% payout but it is still massively overvalued.

Maths time. $2.10 with franking = $3. Get that twice a year and it equates to less than a 6% yield. Why take on equity risk for 6% yield when you can get 5% risk free?

No thanks, I’m still a seller of CBA.

But I could be convinced to buy Woodside (WDS). They just announced a $6.5billion full year net profit. They realised an average price of US$98.4 boe (barrel of oil equivalent) against an average cost of US8.1boe.

That is a truly massive margin.

Woodside is paying you US1.44 as a dividend. Turn that into AUD and add franking and you get to $3.

The same as CBA.

But it costs AU$35 to buy a WDS share or AU$101 to buy a CBA share.

Crazy. Why isn’t everyone selling CBA and buying WDS?

The energy sector is still mispriced.

Consider this. It costs $1.85T to buy Microsoft. That would get you $67b in annual profits.

For the same price you could buy Exxon (XOM) for $450B and Chevron (CVX) for $310B for a total outlay of $760B. You would still have a trillion or so in the bank to shop with. Those two purchases alone would bring you in annual profits of $90b.

Let me get this right. For less than half the cost of Microsoft, I can own Chevron and Exxon and I would generate more than 30% per year extra profits.

In terms of dividends, Microsoft would pay me $2.72 but I would get $9.67 from owning the other two. Plus I would have about $1trillion in the bank.

Whichever way I cut it, the energy sector is still massively undervalued compared to tech.

Either tech will come down or energy will go up. I suspect both will happen.

The decade of zero interest rates is over. Rates are going up and will likely stay high for quite some time. That will cap tech stock prices. You cannot expect them to go back to their prior highs anytime soon.

This is what Bank of America thinks

“Bear markets have historically resulted in leadership change, which suggests old economy sectors are likely the winners of this cycle,” Savita Subramanian, BofA’s head of U.S. equity and quantitative strategy said in a note earlier this week.
With these components of the market depleted of capital over the past ten years as Big Tech was powered by free money, the “pendulum is expected to swing back” in their direction, Subramanian noted.

You could set yourself up with a very interesting portfolio this year. Get long energy and commodities. Get short tech. Make yourself into a mini-hedge fund. The long-short nature of this position reduces market volatility and the massive dividends from your long side will power returns.

I can’t think of a better positioning for this year, and now is the time to do it while tech is still high.

A little update for those who bought Ardmore Shipping (ASC) last year. You should have picked it up around $8. It announced profits recently and the stock is now at $18. Dividend announced was $0.45. So don’t sell it. On your $8 purchase that is over a 20% yield. Why would you sell a 20% yield?

Remember I was chasing Nine Energy Services (NINE) but it shot up and away from me? Well, it is back to $9 and change and will announce earnings on March 8th. Market expects $0.34. It delivered $0.39 last quarter.

The idea with NINE is the same as ASC. Buy it now and wait for it to start paying dividends next year, then sit on the yield for the next few years and enjoy the income.

I like that approach and am going to see if I can uncover any other undervalued companies with turn-around prospects.

Warning

Stock values can go down as well as up. It is possible to lose 100% of your investment in a stock. Any advice given by Capital 19 is general advice only and does not take your personal circumstances into account and might not be suitable for you.