Picking five local stocks at the end of December and sticking with them through the next 12 months makes the Brokers' Picks a tough, and sometimes brutal exercise. Photo / Getty Images
There's no hiding from it - results at the mid-way point in the Herald Brokers' Picks game make ugly reading.
Picking five local stocks at the end of December and sticking with them through the next 12 months makes the Brokers' Picks a tough, and sometimes brutal exercise.
Especially in a bear market.
Brokers don't get to reassess, sell-down, buy-up or change their strategy based on new information.
But that doesn't mean the results aren't interesting or revealing. In fact, they offer some insight into the big forces that have shaped markets this year. And some clues about where markets are headed.
The game does allow us to put the spotlight on the local market and on key stocks. It highlights how different sectors perform in different conditions.
This year has been a real stress test. Some of the local market's best performers - in more normal times - have had a shocker.
So far, 2022 has seen Wall Street's S&P500 index deliver its worst first-half performance in 50 years.
The local NZX50 index hasn't fared much better - down 15.5 per cent in the period from the start of this year's Brokers' Picks game (December 21) to June 30.
Overall, the variance within the competition period was similar to that of NZX50 returns over that time, says Jarden research analyst Adrian Allbon.
"This downwards movement for New Zealand markets is consistent with those in the US and Australia," he said.
Inflation has been a big factor. Most of the brokers in the game knew that and factored it in.
Higher costs hurt earnings and for anyone trying to pick shares, the theory is to choose companies that are better placed to pass on rising costs to their customers.
But the war in Ukraine and China's Covid lockdowns pushed inflation much higher than anyone expected.
Central banks have acted aggressively and interest rates soared around the world, rattling markets.
The broadly negative trend reflected the impact of changes in long-run interest rates, he said. For example, the New Zealand 10-year government bond had risen by 1.5 percentage points to 3.9 per cent.
Despite all the turmoil, topping the table to the mid-year point, with an average return of 8.7 per cent, is MSL Capital Markets.
However it should be noted that MSL's picks include thinly traded aged care and retirement living company Promisia.
Promisia's share price is up 100 per cent since the start of the year - from 1c to 2c per share.
It has traded up and down between those levels about 10 times since the start of the year, making it a highly volatile pick.
MSL's next-best pick was NZ Rural Land, which just sneaked into the black - up 0.1 per cent.
The broker's big gain on Promisia was offset by Fletcher Building, which has struggled this year - off by 27 per cent.
The only other broker to stay out of the red with its average return to date has been Forsyth Barr - up 0.2 per cent.
Forsyth Barr's most successful pick was Channel Infrastructure, formerly NZ Refining.
Having ceased refining operations at Marsden Point, Channel Infrastructure was now not much different to Port of Tauranga as a solid defensive investment, said Forsyth Barr head of research Andy Bowley.
Forsyth Barr also chose SkyCity, another traditional defensive investment on the NZX, which held steady - down just 2.7 per cent.
Tough markets did highlight the importance of diversification in investments, Bowley said.
"The inflation hedge was something we were very mindful of at the beginning of the year and we wanted to choose companies that could absorb and pass on costs to their customers."
Another good performer for Forsyth Barr was Ebos Group, with a 4.7 per cent gain across the game period.
Ebos - one of Australasia's largest diversified pharmaceutical and veterinary products groups - was one of the star performers of 2021, returning 37.6 per cent.
A well-run business, it has a defensive earnings profile and market-leading positions in a number of core segments.
Vulcan Steel was another stock that managed to hold up reasonably well - down by just 6.4 per cent.
Vulcan was exposed to inflation through hard commodity prices, Bowley said. But it also had an element of diversification across its geographic markets.
"So meaningful positions in both Australia and New Zealand provides a different exposure to the two different building cycles, which helps mitigate some of the risk."
Traditionally, the New Zealand sharemarket has a reputation for being solid in a downturn because it has plenty of defensive, dividend-paying stocks.
It also doesn't mirror the New Zealand economy, which means not necessarily being directly tied to the country's economic growth story.
But so far this downturn had been a little unusual. It was Inflation and capacity constraints that were doing the damage, not recession.
"There are defensive names that haven't don't that well," Bowley said.
For example property, as a subsection of the market, had performed below the market as a whole.
The decline in property prices has a big impact on the valuation of the listed retirement home companies.
That was reflected in big falls for Summerset Group and Arvida - off 26 per cent and 23 per cent respectively.
Stocks that had been able to pass costs through to consumers had generally done better.
Utilities companies such as Spark, Chorus, Vector and the big power companies held up well.
"Spark, Chorus and Vector are the only three names in the NZX50 on positive territory [during the competition period], reflecting their defensive characteristics - focused on areas like infrastructure, utilities and services," Allbon said.
Across the game period they had managed returns of 7.6 per cent, 6.1 per cent and 5.7 per cent respectively.
Unfortunately, none of the brokers taking part in the game picked them this year.
"On the flip side [during the competition period], there has been underperformance of stocks exposed to house price pressures as well as domestic cyclical stocks like Freightways," he said.
"We've also observed a 'reversion' in stocks that saw increased activity during the 2020/2021 pandemic period," Allbon said.
That included the likes of "Mainfreight (following increased deliveries over lockdowns and now amid high freight rates) and Fisher & Paykel Healthcare (as Covid-19 severity has lessened)."
Exposure to those stars of recent years certainly underpinned the negative performance of some brokers.
Of course, the specific time covered by the game means the enormous gains many investors have enjoyed in these stocks aren't recognised.
F&P Healthcare was down 38.5 per cent for the game period but delivered returns of 150 per cent over the previous three years (2019-2022).
Freightways and Mainfreight were down 26 and 22 per cent respectively. But they gained 81 per cent and 205 per cent over the previous three years.
"Looking back at the first half of the year, the big shock was that inflation proved to be much more difficult than anyone thought," Allbon said.
"The Ukraine war and the Chinese situation compounded the issues with loose monetary policy."
That had driven a big change in interest rates which had been quite detrimental to valuations.
"But as we pivot to the second half, the major change in the bond rates has probably happened."
There were still a couple of obvious downside risks, he said.
One was the danger that central banks over-corrected and hiked rates too far, damaging future economic growth.
The other big thing was that, ever since the global financial crisis, falling interest rates had meant there was no alternative to equity markets for investors seeking a good return.
But now, some corporate bonds and term deposits were yielding at levels that rivalled traditional dividend stocks such as Meridian, he said.
But while those risks suggest there is scope for further sell-offs, it seems plausible that the worst of the correction is behind us.
Here's hoping.
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