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A look at companies exposed to tailwinds

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A look at companies exposed to tailwinds

With reporting season sprinting to the end, on a fundamental level it is not all doom and gloom, there are winners (and losers). We notice a clear winner in companies with direct consumer exposure. What are our observations on the cyclical winners and those companies with structural growth tailwinds?

Of the 205 or so notable results to date, 110 of them have been welcomed by the market – a bit better than 50/50 with the median stock up 1.5 per cent post its reporting date.

The cyclical winners

The clear winners are those stocks with direct consumer exposure – specifically retailers and auto-related stocks. While market sentiment here was low, as retail sales and new vehicle sales data has been weak, we have seen solid earnings.

Retailers reporting resilient operating performance, and re-assuring rather than strong outlooks, including Adairs, Accent Group, Baby Bunting, City Chic Collective, Nick Scali and Super Retail Group, was enough to see the companies rally off relatively low valuation levels.

With new auto sales down 9.6 per cent for June 2019, fears of weak earnings and outlook was high. Instead these businesses, Bapcor, McMillan Shakespeare, Smartgroup and SG Fleet Group demonstrated resilience and the stocks have bounced hard from their lows.

Investors are now looking forward to seeing the benefit of the combined effect of the recent RBA rate cuts, APRA relaxing credit rules and the ScoMo tax cuts leaving the Australian consumer with more discretionary dollars in their wallet, which should benefit retail and auto-related exposures.

All is not coming up roses however as retail does have the challenge of the recent heavy decline in the AUD. With almost all retail goods sourced from overseas, a weaker AUD means that these goods cost more in AUD terms, and retailers need to lift prices to cover this cost or see their margins hurt.

Retail conditions are stable, but can retailers get through price rises and maintain gross margins?  That will be key for retailer stock performance from here.

The losers – not enough economic oomph to look pretty

Stocks on a low PE are often cheap for a reason, they are challenged. Investors in these stocks often invest with the view that when the economic conditions become more favourable, there is enough growth available to make a challenged business look more investible again.

One of the problems of today’s low growth world is that the rate of growth available is not enough to give these challenged businesses an investment facelift.

The market has no tolerance for challenged businesses that look bad – Speedcast, Amaysim Australia, IVE Group, Janus Henderson Group, WPP, Pact Group and Virtus Health – many of these stocks are on a single digit PE, pay dividends of more than 4 per cent.

They are all structurally challenged and have been punished this reporting season.

The structural growers

In our final observation of the current reporting round, these are the stocks that have their destiny in their own hands and are not dependent on the economic pulse of the day to execute on their value creation strategy.

We have so many of these to choose from in small-caps – Polynovo, Pro Medicus, Jumbo Interactive, Clinuvel Pharmaceutical, EML Payments, Megaport, Infomedia, Appen, Nanosonics, WiseTech Global, Nearmap, IDP Education, Technology One, Bravura Solutions, Credit Corp, Breville Group, Lovisa Holdings, ARB Corporation, Nextdc, Kogan, Netwealth, Webjet, Pinnacle Investments, Corporate Travel and many more. Most of these names have a global orientation, taking on the world.

Here expectations are high, and the markets’ reaction to results is less about what you delivered, but how the business is positioned to beat next year’s expectations.

IDP Education, Jumbo Interactive, Webjet and Nearmap offered a reminder that structural growers don’t always go up, despite positive progress on the fundamentals.

But Infomedia, Pro Medicus, Nanosonics, Kogan, EML Payments, Breville Group, Megaport and WiseTech Global, amongst others are examples of those companies that delivered and demonstrated businesses set for further strong growth.

As we sift through the reporting data, The Montgomery Small Companies Fund is looking to invest in a high-quality portfolio of sustainable growth stocks, stable compounders and take advantage of stocks with cyclical tailwinds. It follows a lifecycle approach to investing, looking to identify and invest in tomorrow’s leaders today.

To pre-register to receive more information about the launch of the Montgomery Small Companies Fund, please click here.

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Gary is the Portfolio Manager of the Montgomery Small Companies Fund. Gary joined Montgomery in August 2019 after spending three years at MHOR Asset Management in Sydney as a Founder and Portfolio Manager. Prior to this, Gary was a Portfolio Manager at Renaissance Asset Manager in Sydney for six years. Before moving to Australia, Gary spent five years in London running Morgan Stanley’s Technology Sector Equity Research Team, as well as two years covering technology companies for JP Morgan.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.

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4 Comments

  1. Hi Gary

    Integral Diagnostics (IDX) looks like an interesting stock with growth and takeover potential and a reasonable FF dividend that has defensive qualities that would fit well into any Small Companies Fund.

    • IDX is indeed part of our investment universe. Its a stock exposed the the government health expenditure cycle, and at the right time could offer the qualities you’ve outlined. Thanks for your views.

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