Good times for stock-pickers as rate-hike cycle arrives | Pendal Group
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Good times for stock-pickers as rate-hike cycle arrives

Investors willing to pick through the market stock-by-stock have an opportunity to uncover good companies that have been oversold in the market’s volatility, says Pendal’s BRENTON SAUNDERS

  • Rate rise cycle to be steeper and longer than usual
  • Growth stocks derated
  • Opportunity for stock-picking approach

THE volatile start to markets in 2022 has been well-documented — the expected tapering of covid stimulus, higher inflation and rising interest rates have prompted investors to recalibrate portfolios.

Market decline has been substantial in some sectors as investors absorb US Fed policy refinements.

But the wholesale sell-off is creating opportunities for investors willing to take a stock-picking approach, says Pendal portfolio manager Brenton Saunders.

“The market is changing gear substantially in quite a short period of time,” says Saunders, who co-manages Pendal’s Midcap Fund.

“Even though the catalyst for the change has been consensus view for a while now, investor positioning is only now changing to reflect the macro environment.”

In recent weeks the US Federal Reserve has spent time educating markets that the rate hike cycle this time around is likely to be longer and steeper than previous cycles, says Saunders.

“The current macro economic backdrop is very different from cycles in recent times.

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“Previous rate hike cycles have been short and sharp — this one will be different.”

This has important implications for asset allocation and for sector allocation within equities, Saunders says.

“A lot of the stocks and sectors that were beneficiaries of the huge stimulus we’ve seen through Covid are now starting to battle the impact of higher bond yields and the prospect of higher interest rates down the line.”

The result has been an asymmetric sell-off: highly rated stocks, especially those that are not yet profitable, have sold off hardest.

And while the headlines have been about well-known technology stocks, this phenomenon has also affected early-stage Australian resources stocks like explorers and developers.

“Many long-duration stocks have been hit hard.”

Stock-by-stock approach

The result is that investors willing to pick through the market stock-by-stock have an opportunity to uncover good companies that have been oversold in the market’s volatility.

“We think asset performances will be quite moderate this year and stock selection will be more important than it has been in recent years.”

Saunders says a rising rate environment typically hurts the share prices of highly rated, high-growth companies, while more defensive high-quality stocks with high dividend yields and strong earnings tend to be better favoured.


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“With a notional increase in the cost of capital, long-duration companies — especially companies that have most of their profits in prospect and not in the present — tend to get hurt more,” he says.

But that does not mean all growth stocks will do badly, he says.

“One of the characteristics of this current cycle is that the fundamentals underlying many growth stocks remain incredibly robust.

“In many cases the demand for services in these areas remains strong along with a strong pricing environment. They continue to have cyclical tailwinds.”

Caution on earnings

Risks associated with earnings disappointments are currently high.

The risk of highly rated stocks failing to meet the market’s expectations is a sharp de-rating.

“For the first time in a while, it’s our sense that 2022 will be less about beta and more about alpha.

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“That’s an environment that we typically thrive in — identifying stocks on their individual characteristics and investment theses, as opposed to making directional bets over where the market is headed.”

Further bolstering the argument for stock picking in Australia this year is the recent reunification of BHP’s dual-listed structure into a single, ASX-listed company.

This lifts BHP’s weighting in the ASX200 from around 6 per cent to above 11 per cent.

“For anybody investing in an index-aware fund that includes large caps, there’s stepwise increase of around 5 to 6 per cent in your exposure to materials and the iron ore price and everything that that goes with that.

“That’s a significant change in a short period of time.”


About Brenton Saunders and Pendal MidCap Fund

Brenton is a portfolio manager with Pendal’s Australian equities team. He co-manages Pendal MidCap Fund and our natural resources portfolio, drawing on more than 25 years of expertise in resources, derivatives, investment banking and private equity. He is a member of the CFA Institute.

Pendal MidCap Fund features 40-60 Australian midcap shares. The fund leverages insights and experience gained from Pendal’s access to senior executives and directors at ASX-listed companies. Pendal operates one of Australia’s biggest Aussie equities teams under the experienced leadership of Crispin Murray.

Pendal is a global investment management business focused on delivering superior investment returns for our clients through active management. 

Find out more about Pendal MidCap Fund here

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This information has been prepared by Pendal Fund Services Limited (PFSL) ABN 13 161 249 332, AFSL No 431426 and is current as at February 3, 2021.

PFSL is the responsible entity and issuer of units in the Pendal Midcap Fund (Fund) ARSN: 130 466 581. A product disclosure statement (PDS) is available for the Fund and can be obtained by calling 1300 346 821 or visiting www.pendalgroup.com. The Target Market Determination (TMD) for the Fund is available at www.pendalgroup.com/ddo. You should obtain and consider the PDS and the TMD before deciding whether to acquire, continue to hold or dispose of units in the Fund.

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