Simon:
Welcome to Fidelity Sound Bites. A straight to the point no nonsense monthly podcast where you'll learn from some of Australia's leading portfolio managers on what's happening in markets, how they're positioned, and the outlook going forward. I'm Simon Glazier your host this month as Andrew Dowling is taking a well deserved break.
Looking at the shape of the market in the lead up to reporting season, some stocks have had a stellar run in the lead up. And over the last six months while others have been challenging to say the least. Market dynamics are shifting, pricing power remains paramount, and there seems to be a bigger difference between the winners and the losers. To kick us off, how is the shape of the Australian mid cap companies in the lead up to reporting season James?
James Abela
Hello, Simon. Look r there's definitely recovery expected. There's about 9% EPS growth expected on it on a medium basis, averages are a bit different because there's lots of lots of other different moving parts in there. But the recovery is expected. The free cash flow yield is also expected to grow about one and a half percent or so. And the ROA is also recovering. There is a very big dispersion between mid caps and small caps. I mean small caps down about 20% from highs - that's a big number. Mid caps similar to large caps almost flat compared to where they were about 18 months ago, which was the high. So overall, the market is expecting recovery. But there's a very big dispersion between those that are growing those that aren't and those that are those that are fading.
Simon
And just looking through the QMTV lens. What's changed ,what's working, and what's not?
James Abela
It's year… and the gap between what's working what's not is getting bigger. So valuations between those that are doing well those that aren't, is also growing. So definitely the big thing that was the hook of the market six to 12 months ago was value, was the rally. So yeah, typically like 2016, you had pro value, anti quality and anti momentum. And that's what's occurred in the last six to nine months, which has now reversed pretty much since since about February, it started to reverse quite aggressively. And now here we are pre results. Qualities working, momentum is working, and it's working in a number of areas.
So quality in particular as working in technology. So Altium and Wisetech have been doing well, they're growing, they're winning market share in their respective markets, their multiples are doing quite well. Wisetech in particular, as multiples are around 80x PE. Altium is around 40 times PE but these are growing at 20% which is a rare thing in this market. So tech is doing quite well.
FinTech also quite well, Hub24 and Netwealth doing quite well. And healthcare Fisher and Paykel, Pro Medicus and a number of biotechs. So that's all your sort of quality names. But momentum as well. Momentum pockets are building. So lithium’s been still pretty strong, Allkem’s up, you know, record sort of levels, and doing quite well. Insurance has done well as well - Steadfast, Austbrokers. Travel is strong - Auckland Airport, Flight Centre, and biotech as I mentioned in quality and momentum doing quite well the number of discoveries. And then industrial services are starting to tick up as corporate activity still pretty decent.
So that quality momentum paradigm moving upward is quite positive. And that's very constructive for the market, because that's more trending positive market.
And transition and value is still you know, on my numbers, it's about 60% of market is in transitional value. It's really it's a big number. It's not normally that big. All consumer, many industrials, many cyclical
Simon
So that’s a stay away zone at the moment?
James
Yeah no man's land or not in favour/ out of favour. It's still in an area which is pretty large. And not a lot of things are working in that sort of paradigm of transition and value. So it's very specific, so consumer property, industrials, cyclicals, low pricing power, consumers, tough industrials, not spending costs, blowouts, labor, blowouts, all these things are all just big negative themes that are affecting that whole that whole group. So that's where when I looked through that QTMV lens, that's where the market is trying to look more positive. You can see quality momentum doing well, earnings up, multiples up that's positive and constructive. But transition and value really struggling. It just it gives you a signal that the market is still very, very picky and it wants at wants and needs to have earnings for stocks to work.
Simon
And what typically then derails that quality-momentum- led rally?
James Abela
It's usually when valuations get stretched.
Simon
Right.
James
So that's what I think that'll get tested in this results period. So the multiples have been moving and expanding on the expectation that the earnings are going to be there.
Simon
Yeah.
James
Some of them have already confirmed, that some of have, some of them haven't.
Simon
Yeah
James
So definitely, this reporting season is going to be the time when they need to give those earnings to justify the valuations. And that's what normally breaks that paradigm.
Simon
Gotcha, gotcha. So your expectation, then for reporting season. What are you expecting? Are you expecting companies to hit their marks, to hit the guidance? And also, what are some of the leading indicators that you're looking for when companies are reporting?
James Abela
I think the market should deliver what, what is expected and I don't think there should be any massive surprises or shocks in the market. Expectations have come down quite a lot in the last three, four months. But sentiment has improved. So that's why I think earnings need to be delivered for that sentiment to have confirmation. And we've seen stocks that got really hammered like negative earnings or loss making stocks, stocks that had no confidence. Things like
Life360 And Megaport have fallen 60, 70, 80%. And just with a little bit of positivity, a little bit of confidence from management, a little bit of we're going to break even that kind of positivity has meant that stocks are up 60, 70, 80%. Same as some of the lithium names, like Leolithium did a deal. Cashflow production, bank stocks are up 70% over six months. So I think you can get a few of those positive surprises. The markets had a lot of negative surprises too. So in consumer land, you've got stocks that are down 30-40%. In retail land, softer earnings, margins are 4% but profits down 25%, so those stocks are down, and when you got fear of a balance sheet or risk of some sort of more fear, the stocks are down 40%. So it's very, very mixed. Like there's positives and negatives right across the market. So I do think the market is going to want, its wants to be constructive. You can see it wants to be constructive by going from those sort of fears to things that okay.
Simon
Yeah
James
And that's where stocks have gone up 50,60,70%. But they've fallen 70-80% on the way down. So they're not back to where they were in terms of highs, but they've gone from fear, to kind of things are more rational now. So you can see the market wants to be constructive which is really good. But in order for that mental construct to build, you need earnings. And that's why I think this is a very important reporting season. Because the markets expecting recovery, the markets expecting things to get a little bit better, it's less scared. And so the market needs a pretty decent reporting season for it to..
Simon
take another leg.
James
Yes.
Simon
And we've talked about the consumer last month. I mean, the consumer this month hasn't really changed. Still. A lot of pressures coming down cost of living pressures is basically on the front of every newspaper.
James
Correct
Simon
Across the country.
James
Correct.
Simon
So last month, we talked about the consumer, and how challenging it is for the consumer right now. What are some of the signs of life we're looking for in terms of that resurgence of the consumer? I mean, it's on the front page of every paper. You know, across the country cross selling pressures? It's on the top of every agenda. So what are we looking for in terms of that resurgence of consumer?
James Abela
Look, it does feel like towards the end of the year that that'll start to slow down. When you look on the streets, things are still busy restaurants, cafes, holiday destinations, airports, car rentals, it's still quite busy. So people are spending on the experiences but not on stuff, things, products, household goods. And you can see on the profit warnings. Profit warnings have happened for companies that are based around those categories. But those that are based on experiences, you know, they've done quite well. So the airport and Flight Center. Traveled has done quite well. So it's going to be I think, quite specific on where things are good. But I do think overall, the consumer should feel better and should be trending better by the end of the year. But how much they pull in in the next few months is really what the question is, but a lot of those negatives, I'd say have already been announced. But again, it's very patchy. Temple and Webster came out with a good result. It surprised stocks up to 20,30, 40%. But other things that are apparel or household goods, bedding, for example. They're down 30-40% in share prices, because their earnings are off 20-30%. So it's very very patchy and that's that's what consumers are to consumers are quite patchy. They're spending very selectively. And that's, I think what you want is, is is broader competence. And that's, I think what you won't get until the, you know, the end of this year, you'll probably get the start of that. But until we're there, I think the confidence in the market and rewriting stocks, we'll have to wait until then.
Simon
Any insight in terms of the holiday bookings from the Flight Centre and the like?
James Abela
they have been very strong, I think just expecting them to, because everyone, a lot of people have done Europe, there was revenge travel last year. The younger ones traveled last year, a lot more families are traveling this year. Yeah. But then most people have done all of their friends, family and friends or revenge travel by sort of September this year. Yeah. And then it starts to pick up expectations that will start to slow, especially for expensive international travel. And the switch has already started to shift back to back to Australia, and lower cost: Bali rather than Europe. Or, you know, generally Asia compared to Europe. And that's sort of where the trends are. So you can see that, again, the consumers being very specific, and a lot more particular about where their dollars go. Because you've got pressures, as I mentioned, supermarkets, petrol, education costs, healthcare costs, energy costs. so all the pressures are on everyone. And so when you want to have a have a good time and have fun, you want to be very particular about where you spend that dollar.
Simon
Makes perfect sense. So there's no shortage of things going on. So any final comments on what we and investors should be keeping an eye out for during this next couple of months?
James Abela
I think, again, it's very stock specific, you need to be careful of pricing power, or you need to be careful of duration. So the market when that value rally happened, the market went very short duration. So it's I don't think about six months ahead. Now the markets moving to a year ahead. And then as the market gets more confident, start to look two years ahead. And that's why momentum stocks start to work because the duration gets pushed out to more normal, which is the two to three year horizon. So I think that's what you got to do. Now, you got to push your head out a couple of years, because as the market gets less bad, more confident and better, and the consumer gets less fearful and more confident. That's what will start to happen. And that's where the opportunities are, if you think a bit longer term. But also its fundamentals and stock specifics as well, that's that's going to matter. There's no easy themes at the moment, no bargains, there's no bargains, there's no easy themes that you can just buy, and it's in a basket. So it's fine. It needs to everything needs to stack up on its own on its own merits. And still inflation is still there. rising cost of capital is still there. So they are higher hurdles for the market to step over. And that's where I think, yeah, you just got to be very careful what you say all traditional things that I can say like, know what you own and not why you own it. And earnings earnings is really all that's going to matter in this reporting season.
Simon
Yeah. Great insights. Thank you, James.
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