Six must make changes for 2021

The time seems right to review my investment strategy calls of 2020 and put forward some ideas on the most important action to take before the year comes to a close. In general, the big calls have delivered, particularly the decision to hedge any overseas exposure, with the A$ staging a remarkable rally on the back of huge demand for our iron ore exports. A quick summary of the June ideas follows:

• Hedge currency back to A$ – Positive, the AUD moved from US$0.68 to $0.74c
  
  
• Sell retail exposures – Negative, e-commerce boosted the sector beyond weakness of traditional retailers
  
  
• Active over passive – Positive, indices have been caught between surging ‘value’ and weaker ‘growth’ stocks; high-conviction options deliver solid returns
  
  
• Reduce duration – Positive, 10-year Australian Government bond yield moved from 0.75% to 1.06%;
  
  
• Go global – Positive, despite a strong performance the S&P/ASX 200 (+14%) lagged the S&P 500 (20%), Nasdaq (24%) and even the Dow Jones (17%).

Looking forward to 2021, the outlook is far more difficult and less certain (yes, I can use that term now) than it was in the middle of the pandemic in April. As highlighted in this outlook article, the economy is exhibiting both early and late-stage (of the cycle) features at this point in time.

Once again, my first call centres around currency, where uncertainty abounds. The US dollar has experienced one of the heaviest devaluations in recent history, as capital flows seem to flood into China and Australia. After reaching a low of 53 US cents in March, the A$ is now some 40% higher at 74.5 cents against the US dollar. This has traditionally been a very tough time to make a call, as the currency is ahead of the long-term average (around 65 US cents) but facing some strong positive momentum. In my view, uncertainty reigns and the stellar run in the iron ore price (despite Chinese pressure on a broad range of Australian exports) is likely to slow at some stage, resulting in a devaluation of the A$. Given the uncertain, a 50/50 hedging approach seems most appropriate.

In 2021, I’m increasingly wary of initial public offerings or IPOs coming to market after what has been a stampede to end the calendar year. There has been a clear reduction in quality and simultaneous increase in both volume and valuation that should be raising concern for investors. There are some high-quality businesses coming to market, but the major issue is that the majority are riding the ‘digitisation wave,’ but in the small pond of Australia. This leads to my next call, which is to invest in Australia for ‘value’ and overseas for growth.

The smaller Australian companies sector is renowned for trading at loftier valuations than what many would consider higher-quality global smaller companies. The reason is almost solely due to the lack of growth in our large-cap, asset-heavy names. It’s time to see the Australian market for what it is: the home of monopolistic, old-fashioned businesses but very few global leaders. The most powerful trends occurring across the world ranging from automation, electric vehicles, renewable energy to the genomics revolution are just about non-investable in Australia, with investors’ only option being to head overseas.

The extension of this is my next call, being to avoid yesterday’s winners and start focusing on the future. Online sales may have shown incredible growth rates during the pandemic, up 300% in some cases, but is this truly sustainable? And what percentage of total sales does it actually reflect? For many Australian businesses, online sales remain less than 10% of their total despite years of opportunity to expand this market. We all know that overvaluations will occur in the short-term as exuberance, FOMO and momentum get ahead of us, this can be just as relevant for beaten-down cyclical companies like airlines. The time is right to buy some previously challenged cyclical companies, but investors need to focus on quality more than ever. Quality comes in the form of companies making good rather than questionable acquisitions, consistent profit and cash flow numbers, not “adjusted earnings,” and a generally positive backdrop for their area of expertise.

On the never-ending search for income, I’m suggesting a focus on asset-backed investments, like corporate bonds, credit and some listed companies. If there is one thing we will remember from 2020, it is how quickly dividends can disappear during a time of crisis. In in this environment, investors should be looking for certainty in their income sources, something only really available in debt and credit. These asset classes generally offer floating- rather than fixed-rate interest payments and can be secured by assets, rather than completely unsecured. The drawback, of course, is the lower level of income compared to traditional sources, reinforcing the need to seek growth elsewhere in your portfolio. 

My final call is to go “long Asia.” Many experts have flagged emerging markets as the best region for 2021 and beyond: I’m more specific, just buy Asia. But don’t buy it through Australian companies, as evidenced by Treasury Wine’s (ASX:TWE) devastating experience late last year. It’s time to invest directly into Chinese, Asian, Korean and other South-East Asian companies that will be the key driver of the global economy for decades to come. An investment in the region is driven by the incredible growth rates being recorded in virtually all areas,  from credit cards to insurance, grocery delivery and luxury hotels. The Chinese Government has flagged its ‘Dual Circulation’ policy, which includes a focus on self-sufficiency, so better late than never to get involved. 

Drew Meredith

Drew is publisher of the Inside Network's mastheads and a principal adviser at Wattle Partners.