Last Tuesday, my long-held view that resources and related stocks had been oversold this year on a misguided end-of-China-boom story got some very strong backing. I publish a number of charts on my website each week, one of which shows my measure of under or overpricing – I call this ‘exuberance’.
For a number of months, that measure has shown resource and related stocks to be very cheap while most of the defensive and high-yield stocks have been expensive.
In particular, my measure of exuberance for Telcos was 12% overpriced when I was interviewed last week on Switzer TV. Since I have observed that sectors don’t typically stay overpriced by more than 6% for long before they correct, Telcos were defying gravity and I said that to Peter. Not only have I developed this rule over seven years and 11 sectors of the ASX200 – the same rule seems to work for the S&P500 and its sectors, which I also monitor.
Three stocks I own
I’ve stressed in previous articles the importance of only having a small number of stocks on my radar – about 25 – so I can follow them in detail. I currently own only 14 stocks, of which three are in Mining Services (part of the Industrials sector): Boart Longyear (BLY), Bradken (BKN), and Emeco (EHL).
I chose them because they had excellent consensus ratings from Thomson-Reuters (see my column What not to buy) and maintained those ratings through the last few months’ sell-off in resource and related stocks.
I’m currently very overweight in resources because of the very strong forecasts of total returns, which I derive again from Thomson-Reuters data on dividend and earnings forecasts. Finally, that sector has been very cheap by my exuberance measure for some time.
I was not tempted to sell any of these stocks as they fell in price from an autumn peak that followed the very strong run from late 2011. Boart Longyear fell 41% from its 2012 high to its recent low, Bradken fell 52% and Emeco fell 33%.
Bradken came out with a 15% increase in profit last Tuesday, but more importantly, it stated that its order book was full. That positivity isn’t the stuff of a China-gone-wrong story. As a result, Bradken opened on Tuesday morning about 9% up over the Monday close. Over the course of the week, shares in Boart Longyear and Emeco (although they have not yet reported) rallied hard in sympathy with Bradken.
Moving on up
Last week the ASX200 rose 1.3%, but Boart Longyear’s price rose by 17%, Bradken by 24% and Emeco by 16%! My two mid-cap iron ore miners followed suit: Atlas’ price rose 10% and Mount Gibson’s by 7%. And Telstra? Down 6% on that week.
In my opinion the switch from defensives to cyclicals has been on for some time. I sold all of my CSL (CSL) and Sonic Healthcare (SHL) when that sector was overpriced by about 6% a few months ago – according to my measure of exuberance – and I popped some of the proceeds into Rio Tinto (RIO) and the rest in cash. I held on to my Cochlear (COH) (my only remaining Healthcare stock) for reasons I stated back in October when it suffered a sharp fall on its recall last year.
You haven’t missed the boat
I don’t think it’s too late to get into the cyclicals if you choose carefully! But I’m glad I didn’t sell because I may not have got back in again quickly enough. I don’t pretend to have all of the best stocks in my portfolio, but I’m very happy with the ones I have and will ride the wave up if, indeed, my expectations are fulfilled.
What I have tried to show in this column is that there is a lot more to managing a portfolio than choosing a handful of stocks and lying-in-wait. For example, two other mining services companies reported on Monday 13 August: Downer EDI (DOW) gained 11% on the day while UGL (UGL) lost 11%.
Not all stocks are the same. In my thinking, managing a portfolio is difficult and time consuming. Certainly, investors need to “know when to hold ’em, know when to fold ’em,” as Kenny Rogers once sang. I hung onto those three resources stocks based more on what the brokers thought rather than my own opinion, although, as I have stated before, I’m prepared to veto stocks that don’t fit my thinking.
When I have a set of stocks that fit my view on how many stocks to own, which sectors are strong, and which sectors have reasonable levels of expected volatility, I can invest and watch without too much heartache. But market conditions do evolve; I monitor my portfolio daily, but only make changes when I think I have to – but that is not very often.
Ron Bewley is the executive director of Woodhall Investment Research.
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