Investor Update - September 2023
The ASX 200 fell 2.8% in September as rising bond yields weighed heavily on global stock market valuations. At both an Index and company level, equity markets have now started to respond negatively to the pressure of higher interest rates. A renewed ‘hawkish’ stance by the US Federal Reserve has unsettled investors concerned that interest rates could remain ‘higher for longer’ due to renewed inflation fears.
The goldilocks economic scenario has dimmed with the possibility of another Federal Reserve rate hike this year and fewer rate cuts planned for 2024. Undoubtedly, higher bond yields, and evidence of slower economic growth is a challenging backdrop for investors.
Whilst the ASX 200 12-month forward Price Earnings Ratio (PER) is trading at ~15.5 times, a modest premium to its long-term average of ~14.3 times, a quickening pace of negative earnings revisions by analysts has further potential to dampen market sentiment.
Combined with the ASX 200 forward dividend yield of 4.1% now trading below the 10-year Commonwealth Government bond yield of 4.6% for the first time since 2011, equity investors are rightfully wary.
At the sector level, Energy, Insurance and Materials were the strongest performers in September, whilst Healthcare, Real Estate and Technology underperformed.
At a portfolio level this translated into the energy and materials sectors exhibiting greater resilience. Specifically, BHP, Santos, and Treasury Wines were notable strong performing stocks. Whereas CSL, Goodman Group, and Northern Star weighed on performance.
Undoubtedly it is a challenging period for investors, as equity markets undergo a meaningful downward valuation adjustment. A longer period of higher interest rates will continue to be a headwind for those parts of the market leveraged to bond yields and a higher cost of debt. This includes growth companies without the benefit of solid cashflows, REITs, infrastructure stocks, and highly leveraged industrial companies. We believe that is prudent to be positioned in companies that exhibit ‘earnings resilience’ and suitably conservative balance sheets. As such we have further adjusted our portfolios to reflect these attributes. Furthermore, an area of concern has been the underperformance of healthcare in the portfolio. Whilst we readily acknowledge the recovery out of Covid has been slower than anticipated our investment thesis remains that structural industry dynamics, namely: population growth, chronic disease, and demographics provide pivotal support. Moreover, healthcare remains one of the few sectors positioned in the ASX 200 to deliver double digit earnings growth over the next twelve months.
Overall, we expect that higher bond yields and slower earnings growth will continue to be a headwind for equity markets.