Investment market update (for the quarter ended 28 Feb, 2021)
Global equity markets generally surged into the end of 2020, paused for breath in January, but kicked on again in February. Reporting season, when companies report their results to the market, generally saw profits stronger than anticipated.
Companies are benefiting from a combination of economic activity being better than expected, underpinned by government and central bank support, and significant cost savings. Across the market a majority of companies’ future profit and dividend forecasts were lifted by analysts.
A weak New Zealand market the exception
New Zealand equities underperformed major markets over the quarter, despite also delivering generally strong results over reporting season.
The NZX50 market index is dominated by a relatively small number of companies – the largest eight companies account for around half the index, and the largest 15 account for 71 percent.
What that means is any price changes (up or down) of these larger stocks has a significant impact on the overall index.
During the quarter we saw falls in some of New Zealand’s largest listed companies, for company or sector-specific reasons, plus a general pullback in defensive, dividend stocks which dominate the market.
Clean energy exchange traded funds’ (ETFs) buy high, sell low strategy has caused significant volatility in electricity stocks, particularly Meridian Energy (New Zealand’s largest listed company) and Contact Energy. More on this below.
Fisher & Paykel Healthcare, New Zealand’s second largest listed company, has been a beneficiary of Covid-19 with its products used in hospital therapy.
Recent vaccine rollouts and the resulting drop in hospitalisations has raised concerns of a decline in demand for Fisher & Paykel’s products.
In February A2 Milk lowered revenue and earnings guidance for this year (for the third time). Border restrictions are limiting how much of A2’s product is getting to the key China market.
Why a Democrat “Blue Wave” rocketed and then rocked New Zealand electricity stocks
After winning the Presidency and the House of Representatives in November, the Democrats secured a “Blue Wave” (winning the Presidency, Senate, and House of Representatives) in January with unexpected victories in both Georgia Senate runoffs.
The improved prospect of President Joe Biden being able to implement his green infrastructure plan compelled some to pile into clean energy investments.
One channel for this investment were two ETFs that track the S&P Global Clean Energy Index. This index contains 30 companies from around the world which are involved in clean energy-related businesses, including New Zealand’s Meridian Energy and Contact Energy.
As investment money flowed in, the ETF managers were forced to purchase Meridian and Contact shares in large volumes.
Because of Meridian and Contact’s relatively small size and particularly their low liquidity (how many shares typically trade on the market), short-term demand substantially exceeded supply.
Meridian and Contact’s share prices jumped +27 percent and +21 percent in a week. Share prices then quickly gave up these gains as ETF demand faded.
Obviously buying an investment at a high price only to see it fall sharply afterwards is not good for any investor. This is what the surge in the clean energy ETF buying caused. This led S&P Global, which manages the S&P Global Clean Energy Index, to change how it will be constructed.
We expect these changes will mean Meridian and Contact will have a lower weighting in the index going forward, and the clean energy ETFs, who were forced to buy the shares at high prices, will now be required to sell at much lower prices.
This decision has already impacted Meridian and Contact’s share prices. As at the end of February they’re down -32% and -38% respectively from their early January peaks.
The volatility in the share prices of Meridian and Contact is an example of how, at any time, stock prices can diverge from underlying value.
Economic outlook remains robust
The outlook for economic activity and company profits remains robust.
Vaccine rollouts continue around the world. Israel continues to lead the way with 55 percent of the population having received at least one dose of a vaccine as at 1 March.
The UK at 30 percent and US at 15 percent are the leaders of the major economies. The early evidence is positive, suggesting that vaccines are at least as effective as the clinical trials concluded.
Policymakers (governments and central banks) whose actions have underpinned economies over the past year, remain committed to providing substantial support. Central banks are bound to ultra-low short-term interest rates, and supporting government spending with quantitative easing (literally digitally printing money).
Governments are injecting these funds into economies, with the United States leading the pack.
Most US citizens received US$600 cheques from the government in January (which, not surprisingly, boosted retail spending).
Meridian and Contact’s share prices jumped +27 percent and +21 percent in a week. Share prices then quickly gave up these gains as ETF demand faded.
And President Biden is pushing for a further US$1.9 trillion package, which includes further US$1400 direct payments to most people, and an extension of the unemployment benefit top-up.
Cautiously optimistic
It’s been an extraordinary 12 months for investors. In February last year equity markets hit record highs.
In March, market panic kicked in and we saw the fastest bear market in history (defined as a 20 percent or more decline in equity prices). Then, nearly as quickly, equity markets started to recover, and today they are back near record highs.
We recognise that today asset prices are not cheap by any historical reference, and levels of speculation and exuberance in markets are high.
These historically have not been consistent with high investment returns, and we do expect returns are likely to be lower than what we’ve seen over the past decade or so.
This column is general in nature and does not take any of your personal circumstances into account. For personalised financial advice, contact Forsyth Barr for an overview of the services we can provide.
