22 January 2020
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When Peter quizzed Paul

Peter Switzer
19 December 2019

This article today is an interrogation of Paul Rickard, our business partner, who was founding CEO of CommSec and has been an award-winning stockbroker in a past life. I grilled Paul on his take on 2020.

“2019 has been a fantastic year for the Australian share market and most overseas markets. In price terms, our market is up about 21% but add in dividends, it’s over 26%. And that’s a pretty good return in anyone’s language. Some stocks and some sectors have done way better and of course some haven’t but 2019 is going to go down as a great year for stocks,” said Paul, who, for the record is an executive director of Switzer Financial Group.

2018 was a really scary time and lots of people were predicting things were going to turn really bad. What turned it all around?

“Well I can think of one thing that happened in December last year when the US Federal Reserve Governor started using the word ‘patience’ when it comes to interest rate increases. At the time, the market was actually expecting the US Federal Reserve to increase interest rates three times in 2019,” Paul said.

For this very reason, the market was a bit scared.

“That’s why we had the big sell off in November and early part of December last year and they ended up cutting interest rates three times,” Paul added.

Before the Federal Reserve Bank boss Jerome Powell decided to use the word patience, which was a euphemism for ‘we’re not going to raise interest rates’, he probably had spent a couple of months in a headlock from the President of the USA, Donald Trump.

“Jerome Powell was assailed by President Trump on Twitter, being told how useless he was and how he got it wrong.

“While I’ve never seen a President dish out such insults in public, plenty of Presidents have probably got stuck into Central Bank bosses in the past but never in public the way Donald Trump did.

“I’m sure a lot happened behind closed doors, but not as publicly. If you look at 2019, for our market, we just played follow the leader,” Paul said.

In early January, Donald Trump started saying, ‘hey, we’re making progress here on trade’ and they were expecting a deal to be signed on March 27. I remember that day because it’s my birthday and I thought Donald was delivering for P. Switzer, the supreme optimist when it comes to stocks. In a sense he has, because this year a 26% rise is really good for this so-called permabull (which some people call me). One day I will turn and become negative but certainly Donald Trump and Jerome Powell are getting Christmas cards from P. Switzer this year!

“There’s actually another factor that’s hard to actually translate into the return. Of course, this is a local factor, Peter. We all went into May 18 expecting the 31st Australian Prime Minister to be one B. Shorten. Now it’s hard to see how that translated into returns as a fact. But what it probably did do is create a lot of discussion at that time about dividend stocks. We had a move into some of the unfranked stocks and I guess we would’ve seen a lot further action, if one Mr Shorten had been elected. So it stopped that, and that’s been a very important factor. And probably for the housing market more than anything else, Peter, because there were going to be a lot of changes there,” Paul said.

Bill Shorten was a factor but another one was that the Royal Commission turned out not to be as scary as we thought, which helped the market a tad. Then APRA backed off on its tough lending restrictions on banks, and banks started to lend after the election.

“Our Reserve Bank has cut rates three times since June and that’s helped a lot of our so-called defensive sectors. Look at stocks like Transurban, Sydney airports, Medibank, the ASX, Woolworths and some of the more defensive stocks such as property trusts. They’ve all had a great year because interest rates were cut three times. And at the start of the year Peter, I wasn’t expecting any interest rate cuts in Australia and most analysts probably weren’t on that ship either. So as often happens in markets, things come out of left field that surprise us, but summing it all up, 2019 will go down as a great year for stocks,” Paul concluded.

So that was the year in total. Before I look at what I think is going to happen in 2020 and ask Paul where we should invest, I’m going to get his take on the sectors that did really well in 2019?

“The standout sector was healthcare. And it has now been the best sector over the last 1, 2, 3, 5 and 10 years,” Paul said.

Is that because we’re a very healthy or unhealthy country?

“Well, it obviously has some great tail winds. The three tail winds are all a little bit different. Of course, one is the ageing demographic and another is the increasing demand for health services. That’s not just a function of age, we all expect more things. And thirdly, governments, through things like NDIS, keep on spending more money on health. They’re fantastic tail winds that are great for healthcare globally. In the Australian situation, we also benefit from global leaders. CSL is the global leader in blood plasma products. Cochlear is the global leader in ear implants. ResMed is the global leader in sleep apnoea. We have three or four world-class companies at the top of their field, which is one of the reasons healthcare has done so well in Australia as a sector.

If anyone has been the greatest supporter of CSL, it’s my colleague Paul Rickard. This year, CSL got as low as $180 and I remember saying to Paul at the time, ‘gee, it looks like a buying opportunity at $180’, because before then it was probably as high as $285 and we’re looking at $300. When it went from $180 to $220, that was a great selling opportunity but Paul stuck with it and now it’s in the low $280s.So it’s been a really good stock and some people hate buying expensive stocks. But it’s a classic example: it’s not the price of the stock that counts but the quality of the company.

“It’s matched by companies like ResMed and Cochlear to a lesser extent. So the healthcare sector’s return is almost 50%, which isn’t bad. So that’s been number one. Number two has been information technology. Now this refers to our favourite WAAAX stocks of the year.

Our WAAAX stocks are like the FANG stocks in America.

“We had to come up with an acronym, because like most industries we like an acronym to make life more confusing. So, it’s WiseTech, AfterPay, Appen, Altium and Xero. And Xero’s probably the best established of those companies. They’ve been a star performer. There have been a couple of duds in the IT sector so offsetting you’ve had the performance of Link, so it hasn’t all been one way,” Paul said.

Link was Brexited wasn’t it?      

“It was Brexited in part, but there’s been other some issues there too. So that’s the second sector. The other that I’d describe as having had exceptional performance is something I got wrong, which was consumer staples. Now that’s Woolies, Coles, Coca Cola. It hasgot some growth stocks like A2 Milk in there, which it has benefitted from. And also, Bellamy’s was there and got taken over, so there’s been some helpers. But the performance of Woolworths and Coles has been quite extraordinary. They’re very expensive stocks now,” Paul said.

Woolworths tended to be a 4% dividend company and has turned about 2.8. That’s because people bought it so much that it’s driven the share price up so its dividends as a percentage have shrunk.

“It’s now back to almost its all-time high. And you remember the damage Woolworths suffered from Masters. So that’s been the surprising one. The other is, on the negative side, the sector that hasn’t done as well is obviously financials. It’s still up 15% Pete, so that’s not too bad but it’s a long way from the 26% of the market and healthcare, which was up 48%. Financials poor showing was largely a function of the Westpac, National Australia Bank, ANZ and Bank of Queensland. CBA has done all right but the other companies haven’t gone well.

What about the other sector?

“The other one has been utilities, which I think is a small sector but it’s really hot,” Paul said.

Paul, what are the key companies in utilities?

“Well, things like AGL, Spark Infrastructure, wholesale energy prices, electricity prices, have been coming down. AGL misplayed its hand a couple of years ago with the Liddell powerstation and totally got the government offside and they’re paying the price, I think, in terms of what’s been done to put pressure on that sector,” Paul said.

That’s the past! Paul, what do you think of big picture in 2020?

“The biggest driver in our market is the US. Trump wants to win the 2020 election and doesn’t want to go in with a market under pressure. He wants to have a great domestic economy, low unemployment, a strong stock market and talk about how many jobs he has created and not to have to deal with pressures in markets. So he’s got every incentive to try to keep the market moving up. The trend is your friend. We are in the 11th or 12th year of a bull market. This is a bull market and what markets still teach us is that you have got to play the trend. Very, very few people pick tops and very few people pick bottoms. All the data says the market’s going up. I see no reason why you just don’t stay long. It doesn’t mean you have to add to it, even if you’re a bit scared. I mean, there are going to be people saying this is an all-time high and looking at the multiples and who knows what other sort of black swan event is out there. Take a bit off the table but the most important piece of data you have is that we’re in an uptrend. You just don’t expect to pick the top. You’ve got to stay with the trend,” Paul said.

The great bull market killer is rising interest rates and interest rates aren’t rising. When they start to rise, P Switzer will start getting a little bit suspicious about this bull market.

Will financials have a better year?

“I think they can. I mean, what you’re talking about Peter has a bit more size to it. It’s called mean reversion, which I write about a lot. But what it does say is things go back to the norm. So if you have a whole lot of exceptional returns, what tends to happen over time is things average back out a little bit. In other words, the best performing sector one year is often amongst the worst next year. But it’s not always the case, and we’ve seen that healthcare the last three years has been the best performing. But if you have a great year or a great couple of years, at some stage you get the reversion. And a good example on that is say, for example, Telstra and communications services. I didn’t talk about that as being a great performer in 2019, that’s because Telstra has just gone up. Who said it was too cheap? I don’t know. I’d like to say financials are ready to revert back. They’ve been underperformers now for four years, so I think that’s a brave call. I’m not going short, I’m just not quite in the camp to want to get too long. But I do like Westpac so hang on to your banks,” Paul said.

Would you put some more in?

“I’d absolutely have some banks. The dividends are pretty good, 6.5% and that’s without franking on Westpac, which is closer to 9 and a half on a pre-tax basis, so that gives you a little bit of protection. You know, you don’t get carried away with this stuff, because buying stocks just to get yield can be tricky. But it does give you some protection on the downside,” he said.

One last one, utilities?

“I’m going to go back for healthcare for the fifth year. I agree utilities are due to go back up, but I don’t know, my thinking there is a bit different Peter. I’m looking at the major companies, the banks, the Woolworths, Telstra — there’s a lot of companies really struggling to show any growth. And I think the market is putting now a huge premium on stocks that have top line revenue growth, as they do in the US. And because so many of our major companies are constrained with very limited top line and earnings growth, people are going to keep on paying more of a premium, so I think some of those healthcare companies. There are others in the category, companies like Seek and REA and a few others. There are companies in the IT space. I think they could get even more expensive. I keep coming back to healthcare. I’m not going for utilities this year because I think there’s still too much pressure on the electricity price, and they’re paying the price for getting the government and consumers offside. I’m not yet going to put a lot of money back into utilities,” Paul said.

“I don’t mind the energy companies, per se, because OPEC’s actually showed remarkable brilliance being able to manage production. And the oil price hasn’t got below $50 and that’s a huge base,” he added.

It’s funny, the oil producers of the world are some of the crankiest countries in the world, and they’re actually acting as a team, and it’s actually raising the price, which is good for their companies.

“America’s not part of it and Americans can produce more and they’ve cut down. But what OPEC has demonstrated, and it’s got Russia and the non-OPEC countries involved, is that as long as they act together, act really like a cartel, which is what they are, they can actually have an enormous influence. And they’ve actually been very successful the last couple of years in doing that,” Paul said.

OK, and if people ask me what I thought the index would go up by next year, I wouldn’t be surprised to see a 7% gain, throw in the dividends, so you might get a 10% gain overall being in the stock market. That does probably rest on Donald Trump winning the election. But I think even if the Democrats put up someone like Bloomberg, the market would cop him as a potential President.

“Well, you got a lot of bagging when you made the call this year, Peter. You did say we would get close to 7000 and we’ve got very close,” he said.

Paul’s analysis is great. Let’s hope we’re both right.

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