A Shift in Asset Allocation
Over the past few months, we have been developing the thesis that global equity markets were clearly overvalued and in the last phase of the bull market that started in 2009.
Our preferred scenario was one where a 5 to 10 % correction should have taken place over the past three months, but the insane liquidity injected by the Fed and the relentless bullishness of small retail investors prevented the correction to happen.
Yesterday, as the SP500 was hitting its Short Term moving average, a level from which it has rebounded all along the past 8 months, we sold two-third of our US ETF short positions as well as our long volatility positions, reducing our short exposure. However, at the same time we have increased our short position in Microsoft.
The macro-economic environement is one that sets the scene for a last rally in Q4 2021 for an ultimate peak in Q1 2022, when the markets will realise that inflation is here to stay and Central Banks are forced to normalise interest rates.
The fourth quarter rally is one that will favour rotation into cyclicals and value stocks out of overvalued growth and technology stocks.
It will also favour European, Japanese and Chinese equities over US indexes that have little upside left and are extraordinarily overvalued.
Chinese equities are going through the last wave of liquidation following the Government clampdown on technology, gaming and casino industries and the ripple effects of the coming bankruptcy of Evergrande.
Japanese equities should benefit from the nomination of a new Prime Minister and the sharp weakening of the Japanese Yen that we expect.
In the coming days or couple of weeks, we see so more weakness but we are at a stage where starting to shift to a more bullish asset allocation is warranted.
And this is what we have started doing today in our MODEL PORTFOLIO.
Following today’s and yesterday’s trades, our Asset Allocation has changed sensibly with a much more balanced Long equity portfolio with increased weightings in Europe and the USA and reduced exposure to the Chinese HSCEI Index.
Chinese equities are experiencing a global wave of liquidation – the final one in our views – as global investors are fearing contagion from the Evergrande debacle. At the opening of the markets in Hong Kong we have sold a number of positions, including all our banks, Guangshen Railways, Sinotruck and our two Chinese auto dealers positions where we made good money.
We remain positive on the banks in the long term but remain disciplined when it comes to technical Sell signals
This has reduced our exposure to individual stocks.
However, we also took advantage of the weakness in the main indexes to increase our Chinese ETF exposure through the FT50 China, which includes the banks we have sold and the CSI 300 Index ETF.
In Europe we unwound our Hedge at no cost, Re-instated TELEFONICA and INDITEX, added a new position in GRIFOLS, the Spanish medical and biotech company and added to position in French Electricity provider EDF.
EDF is an interesting recovery case and as the following chart shows, the stock has now stopped falling while earnings per share are starting to rise again.
EDF revenues will climb to new all-time highs in 2021 and 2022 while Earnings per share will recover sharply from their 2020 downdraft. Energy prices are booming in Europe and that will benefit EDF as all power generators
GRIFOLS SA is also an interesting case. This medium size Spanish Pharmaceutical and medical devices company should see sales, net profits and earnings per shares recover strongly from their 2020 downdraft and reach record highs in 2021 and 2022
But the share price is not yet reflecting these underlying improvements despite the unanimous bullishness of analysts.
Inditex ( ZARA ) published strong results for the first half, outperforming its peers and confirming that its online business model and very short collection lifespan was a precursor.
We re-instated our position today at the opening.-
Telefonica of Spain is one of our favorite value stocks with a prospective P/E of 5x and a dividend yield of 8.44 % that provide support and fully discounts the slower revenue and profit flows ahead.
In the US, our long portfolio is evolving from a special situations portfolio to a much more traditional portfolio and we added today stocks that we have been analysing and monitoring for weeks.
energy prices are booming everywhere and energy producers are benefitting from the rise in their pricing power . in the past two years, energy stocks were clear laggards. We see a period of outperformance ahead.
Today we added the XLE US. Energy Select Sector SPDR Fund is an exchange-traded fund incorporated in the USA that tracks an Index of large-cap U.S. energy stocks. It invests in companies that develop & produce crude oil & natural gas, provide drilling and other energy related services. The holdings are weighted by market capitalization.
We also added for good measure a tracker on the energy small cap space, PSCE US.
Invesco S&P SmallCap Energy ETF is an exchange traded fund incorporated in the USA that tracks the S&P SmallCap 600 Capped Energy Index which holds US Energy companies from the S&P600 engaged in the business of producing, distributing or servicing energy related products. The Fund is rebalanced and reconstituted quarterly.
We increased our position in QuantumScape, our solid state battery maker and added an extremely interesting Lithium recycling company Li-Cycle Limited.
Li-Cycle is a newly listed Canadian venture that recycles batteries and the lithium included. The size of the market is set to explode and Morgan Stanley jusr released a note putting a US$ 15 price target on the company.
The company recycles batteries, working to recover reusable materials from expired lithium-ion batteries.
The company estimates that, by 2030, the battery sector will generate over 15 million metric tons of used-up lithium-ion batteries. These contain unusable pollutants – but also plenty of recoverable elements. Li-Cycle offers a full service menu to recycle batteries, from collection to recycling to the secure destruction of electronic devices containing used-up batteries. The company boasts that it can recover some 95% of the material in the batteries, without sending waste to the landfills, and returning large quantities of aluminum, copper, lithium, and other elements to battery manufacturers.
Li-Cycle has been expanding its footprint in the niche, and this month announced that it is opening a new facility in Alabama for battery recovery. The new facility will have an initial capacity to generate 5,000 metric tons of manufacturing scrap annually, bringing the company’s total annual capacity in North America to 25,000 tons.
Also this month, Li-Cycle released its fiscal 3Q21 earnings. The company showed an impressive 840% year-over-year increase in revenues, to $1.7 million, in the quarter. The report is the company’s first as a publicly-traded entity; LICY hit the NYSE on August 11 of this year after a SPAC combination with Peridot Acquisition Corporation. The transaction brought Li-Cycle $580 million in gross proceeds.
Li-Cycle is well-funded and has a strong pathway towards feedstock security required to reach scale and robust profitability potential. This stems from Li-Cycle’s strong OEM partnerships, and proprietary recycling process expected to drive more favorable raw material recovery yields and lower environmental footprint versus peers.
Li-Cycle has significant mid-term earnings potential under reasonable key driver assumptions and capacity roll-out trajectories, with even further potential upside if management guidance is achieved.
After just one month of public trading, LICY has attracted 4analyst reviews – 3 to Buy and 1 to Hold – for a Buy consensus view. The average price target is $13.5, and implies a 62.5% upside from the current $8.8 trading price.
AT& T is also one of our favorite value stocks and we waited a long tie before including it in our MODEL PORTFOLIO.
The US telecom giant has a low P/E but a high dividend reflecting the stable nature of its business and the cut throat competition in the telecom industry. However, the company’s earnings per shares are set to climb again and recover strongly from the 2020 and 2021 downdraft while the stock price does not reflected that.
The company’s strong cash flow makes the dividend extremely safe even if not growing substantially over the years.
At $ 27, T US trades on a major support and we expect it to retrace all the way back to 32 in the final quarter of the year, an 18 % upside from here.
ALTRIA -MO US – We have been wanting to add MO to our US portfolio for a very long time and see this investment as a 8 % yielding bond with a 4 to 6 % dividend growth per annum.
Altria is a “Sin” company that is hated by the chorus investing in ESG and sustainable investments. However, it has one of the stablest business ever, even if it is subject to tax hikes and other smoking prevention measures now and again.
Altria has diversified in vaping successfully and is managing to achieve stable revenues and growing profits despite the decreasing appetite of people for smoking.
MO has been growing dividends consistently. During the past 10 years, they grew at a healthy rate of 8% CAGR. For a staple business, stable dividend growth is a good thing and MO has been increasing dividends consecutively for more than 51 years.
And it has increased its dividends even during the 2008 financial crisis and the 2020 COVID crash.
Sin companies tend to be extremely defensive in equity markets downturns and this is why we are happy to buy ALTRIA at current levels.
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