The beauty of the sharemarket is that even in a downturn as prolonged as the present slump, not all stocks will be conforming to the behaviour of the index.
There will always be some of the 2,200 listed stocks that are doing better than the index.
A simple relative strength search – the relative comparison of a stock’s price action against the S&P/ASX All Ordinaries index – will throw this up.
Gary Stone, managing director of mechanical trading software firm ShareFinder Investment Services, says relative strength identifies the stocks that are benefiting from positive sentiment.
“We use relative strength as a filter in the market. You hear people talking about combining technical and fundamental analysis, well relative strength does that, but in a more dynamic way, because it’s looking for stocks that are outperforming the market; quite often those are stocks where the fundamentals are good, but it also shows you stocks where the price is rising, even though they may not have good fundamentals.
“So it gives you a more dynamic, fuller picture, of stocks that have positive sentiment. Of course, that could be because of valuation fundamentals, but it could be for a totally different reason.”
Stone has produced a list of the stocks that are out-performing the index since October 2008, a time period taken as the worst of the slump. “You’re looking for a situation where the stock is holding its own. But then you have to check the liquidity. It’s no use to you if the stock hasn’t traded for two months, you need it to be liquid enough to take a position.”
Stone says the list reflects the fact that the market is “very much a stock-picker’s market.”
“To a large extent it is a stock-by-stock story, but there are a lot of health stocks in the list of stocks that have done well in this market. Cochlear, ResMed, F&P Health – the more liquid ones have done pretty well.”
Healthcare has been the best-performed of the GICS sectors on the Australian Securities Exchange (ASX) since the beginning of the bear market in October 2007, showing a 6 per cent fall versus the 45 per cent drop in the S&P/ASX 300. The sector is living up to its reputation as one of the most defensive havens in a downturn, offering relatively strong and stable cash flows and some of the better-performed companies in the recent interim profit reporting season, for example Australia’s global medical stgice makers, Cochlear and ResMed.
But Stone cautions that not every stock that is holding its own is doing so because of strong fundamentals. “When you’re picking up on market sentiment, as you are with relative strength, quite often it is stocks that wouldn’t even feature in a fundamental search.
“People doing fundamental searches and looking for three, to five years of sustainable trend of EPS growth and DPS growth and stuff like that, they will miss some of these stocks. By the time that these show up on fundamental filters, they could be up by 200-300 per cent,” he says.
A takeover offer – such as that for Pure Energy Resources by BG GRoup, or the recently abandoned merger proposal between Coca-Cola Amatil and Lion Nathan – also helps.
Brain Parker, chief investment strategist at MLC, agrees that the market is a “stock-by-stock story” at the moment, rather than individual sectors or particular themes. He says the “critical metric” is the sustainability of dividends.
“I think it will be a time to look for companies that have enough fat built into their payout ratios such that when their earnings fall substantially this year – which is going to happen – will they be able to maintain their dividend, or at least minimise the damage to their dividend.
“That’s going to differ from sector to sector, it’s very much an individual company story. Earnings are going to end up falling by at least 30-40 per cent. With that kind of backdrop, how will dividends hold up? It’s not so much the level of the payout ratio, it’s the sustainability of the dividends. That’s going to vary across the board. But clearly, a 75 per cent payout ratio is better in that context than a 100 per cent one.”
Nor is technical analysis much help.
Technical analyst Regina Meani, of Chart & Technical Services bemoans the fact that there are “very few studies and filters that you can run at the moment, because a lot of the old things aren’t working.” She says the market is “incredibly over-sold” – even on long-term indicators – but it simply will not turn around.
“What you need at this time of market uncertainty is to look for something like a reversal that’s forming. But I’ve found that in some of these situations, the stock fails to complete that reversal, and continues on that downtrend. For example, at the moment I’m watching a head-and-shoulders reversal in Skilled Group, but it hasn’t been completed, and I wouldn’t act on that until there was a very definite confirmation that that had been completed.
“A lot of stocks are still very much in downtrend, and while the downtrend is in place, that is the overwhelming influence. It’s very hard for stocks to go against the overall market trend. There are some that can do it, but you’ve got to be very cautious.”
If a stock is looking good relative to the index, Meani says it is time to analyse it in depth – from a fundamental point of view as well as the technical. “It could be falling, but just not falling as fast as the All Ordinaries. You have to micro-analyse the stock – the ‘macro’ view is not going to help at this point.
“Relative strength is on its own is not enough – but you never rely on just one indicator. You’ve got to monitor it to see a possible bottom in progress – unless you’re looking for a quick reactionary flick up in the price. It comes down to what the individual wants, as well. Do they want a quick bounce or are they taking a longer-term view? For the latter, they’re probably going to need a fundamental view as well,” says Meani.
Stocks Holding Up in the Downtrend
|NAME OF COMPANY||STOCK CODE|
|Insurance Australia Group||IAG|
|New Hope Corporation||NHC|
|Primary Health Care||PRY|
|Ramsay Health Care||RHC|
|Fisher & Paykel Healthcare||FPH|
|Pure Energy Resources||PES|
|Gold Bullion Securities||GOLD|
|Bunnings Warehouse Property Trust||BWP|
Source: ShareFinder Investment Services
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