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Last weekend in a national newspaper, I warned that the current profit-reporting season reeked of a share market that looked overbought and unusually optimistic.
I examined the trend of “gapping”, where stocks that beat market expectation with earnings soared on good news, sometimes more than 20% in a single trading session. And how stocks that reported worse-than-expected news fell less than usual.
Corporate Travel Management, Webjet and several other companies warned of disruption from the Coronavirus to their operations, yet in some cases their stock rose.
I believed the market was too complacent in its view of the Coronavirus and its effect on the global economy, and that talk of a “v-shaped recovery” in the second quarter of 2020 was overstated. It felt like a “glass-half-full” market refused to let go of its rally.
What a difference 72 hours makes. The Australian share market had slumped more than 6% by Wednesday afternoon as this column was written, amid fears that Coronavirus containment, especially outside of China, is failing. The narrative swung towards a “pandemic” as new outbreaks emerged in parts of Asia, the Middle East and Europe.
Nobody knows how the Coronavirus will play out. Reports I’ve read range from the disease infecting 40-70% of the world’s population (the majority of whom will not die from it), to China getting the disease under control as daily new cases there fall.
My sense is the virus could linger longer than the market expects – partly because it seems to take longer for symptoms to present and has a lower mortality rate compared to other outbreaks (which keeps the virus alive longer). It could take many months to get back to business as usual for global industry.
The big problem is central banks have less ammunition to lower interest rates to support economies during a “black swan” event. Our Reserve Bank has two interest-rate cuts left in its cannon and will probably use both this year. I can’t see the Federal government, which is fixated on delivering a budget surplus, providing extra stimulus to boost the economy.
So, I wouldn’t be buying tourism, travel or education stocks that have been pummelled on Coronavirus concerns amid this week’s market sell off. Nor would I bargain hunt in the market just yet because the next two weeks will be crucial for news on whether Coronavirus containment is working. Better to watch and wait for signs the virus is being contained.
Rather than dive into individual companies, active investors who want to trade a potential market bounce in the next few weeks should look at commodities or sector-based Exchange Traded Funds (ETFs). Commodities will rally first – and possibly hardest – when signs emerge that the virus is being contained. Much catch-up will be needed in industrial production in China and elsewhere, in turn stimulating commodities demand.
Here are three ways to play an eventual market rebound:
Oil prices slumped this week and gold hit a seven-year high as investors raced to safe havens. Brent Crude and West Texas Intermediate Oil each fell almost 5% in US-dollar terms on Monday as the market fretted about a slowing global economy and lower oil demand.
Oil futures implied further sharp losses amid expectations that analysts will slash forecasts for oil demand if the Coronavirus is not contained. Predictably, oil stocks worldwide, like most equities, have been sold-off this week as Coronavirus rattles the market.
Look for a rebound in oil in the next few weeks if news on the virus improves. Of course, all bets are off if the number and location of reported Coronavirus cases snowballs more than the market expects. In that scenario, oil has further to fall.
The BetaShares Crude Oil Index Exchange Traded Fund (OOO) is a simple way to back a view on future oil prices. The fund tracks the performance of crude-oil futures (which is different to investing in spot oil prices) without having to invest directly in futures.
OOO is hedged for currency movement and the management fee is 69 basis points. It is down almost 16% in one month amid expectations of lower future oil prices, and sharply lower over five years. Contrarians who look to buy when news is at its worst could use OOO to profit from improving oil prices as the global economic outlook eventually stabilises.
Investing in base metals, also under pressure this year, is another option. Nickel, in particular, look interesting.
Chart 1: BetaShares Crude Oil Index ETF
Tech stocks ranging from the FAANGs (Facebook, Apple, Netflix, and Alphabet) in the United States to WAAAX stocks (WiseTech, Afterpay, Altium, Appen and Xero) in Australia have mostly been smashed in the latest share market sell off.
In a nervous market, selling high-valued tech stocks is a no-brainer for fund managers who want to reduce share market exposure and be the first to the exit as the tech party stalls for now.
Tech is affected by the Coronavirus through global supply chains. For example, Apple and other tech-device makers struggling to get enough parts in time to make phones, laptops and so on if China – the world’s factory – shuts down for longer than expected.
Slowing demand for tech devices in Asia, particularly China, in the first quarter is another headwind.
However, the Coronavirus and subsequent tech sell-off could be an opportunity to buy back into the sector at lower prices, in anticipation of a resumption in usual global supply chains later in 2020 as Chinese manufacturing gets back on its feet.
The ETFS Morningstar Global Technology ETF (TECH) – a preferred tech idea I have written about several times for this Report – is a useful tool to play a tech rebound. It tracks mostly larger tech stocks in developed markets that have higher Morningstar ratings and has an equal-weighted index approach. Using “smart-beta” ETFs that have some level of active management is useful in tech to limit exposure to highly overvalued companies in the sector.
TECH rose 7.4% in January 2020 and returned 38% last year. This ETF has given back some of those gains this month amid global tech-sector weakness, and will probably give back more in the next few week as market volatility remains elevated. That’s an opportunity for investors to add to their tech exposure in the next few weeks.
Contrarians who want to take bigger bets on tech might invest in Asian tech companies via an ETF. I prefer backing larger tech companies in developed countries given the valuation risks.
Chart 2: TECH
Droughts and bushfires can turn people off investing in agriculture, but the sector’s long-term themes are compelling: a rising world population, agriculture supply constraints and a rapidly growing middle-class in the developing markets that is upgrading its diet.
The Coronavirus will surely increase long-term demand for agriculture from countries and companies that have stronger safety credentials. Australia and New Zealand could be beneficiaries given the quality of our products, safety standards, food-tracking technologies – and our agriculture reputation as “clean and green”.
The BetaShares Global Agriculture ETF – currency hedged – (FOOD) provides exposure to the world’s largest agriculture companies via ASX. Its underlying index includes 58 agriculture companies, about half of which are based in the United States.
FOOD fell 5.24% in January and again in February. Over three years, FOOD has an annualised return of just 3.11%. If you believe the Coronavirus will encourage greater emphasis on the safety and origin of food consumed in Asia in the next few years – and higher demand for food from western agriculture companies – the ETF is one to watch.
Chart 3: FOOD