While the path forward is still unclear, one thing for certain is that recovery is on its way. And some of the underperformers could take off.

Many earnings season bears surfaced in July, warning that markets would retest the March low. But we remained optimistic on the basis that earnings expectations were low and government stimulus was effective.

Even so, we were surprised at the extent of sharp share price reactions following some seemingly ordinary results. So, what have we learnt?

The June half had certainly been very tough for many sectors, particularly those directly affected by the pandemic-induced lockdown. With the lockdown still in place in Victoria, companies in these sectors were certainly cautious when guiding to earnings recovery.

For those businesses, it is all about the trajectory of the earnings recovery, as well as capital preservation. With minimal earnings expectations for 2019-20, many of these outperformed meaningfully.

What surprised us though, was that travel names performed particularly strongly despite the more prolonged recovery outlook.

Our view has always been that current market conditions offer ample opportunities to buy some premium assets that are trading at a fraction of their intrinsic value. Sydney Airport, Scentre Group and Ramsay Health Care are some of our favourites in playing the reopening theme.

Investors are paying very little at this point for earnings, and we are comfortable that once the world returns to normal – and it will – these businesses will experience a V-shaped recovery regardless of the economic cycle. In fact, lower interest rates around the world will further underpin their traditional premium to the market.

Most retailers have staged a phenomenal comeback, aided by the stimulus and changing consumption patterns. It would seem that saved overseas travel dollars are now being spent on housing renovation and discretionary items. While many would call this boost to sales temporary, and look to take profits accordingly, our view is that this is too early.

Super-sweet spot

We expect consumers to remain domestically bound at least for the next 10 months before the world is clear of COVID-19.

A positive top-down view should not be translated into a blanket buy of the whole sector. Fundamental research is the critical factor to generate superior returns. In this vein, Super Retail, which owns Supercheap Auto, BCF, macpac and Rebel, operates in the sweet spot of this transition year.

People are travelling more to local camping grounds, and many are now booked out for the Christmas break. What’s more attractive is that Super Retail is trading at only 14 times earnings which is a substantial discount to the ASX industrial earnings multiple of 22 times.

If judged by share prices, it would seem the tech sector has been the biggest beneficiary of the pandemic. The industry on aggregate outperformed the ASX 200 by a staggering 91 per cent off the March lows, and the leaders have done even better, such as Afterpay, which has delivered an astounding nine-fold return since its low in March.

In the past six months, we have reached a critical turning point in technological adoption. The COVID-induced lockdown has pulled forward this inevitable structural shift, with many innovators reporting a doubling of revenue and market share. Rapid growth in this sector means it is now a significant part of the index. Investors can no longer ignore these growing heroes, which in turn will drive more diverse investors into those already blue-chip registers.

Aside from the buy now, pay later leaders we support, our favourite in the sector is Tyro. The company has been severely affected by the COVID-19 lockdown and the current share price represents an extremely attractive entry point to gain exposure to a multi-year structural shift to digital payments.

Tyro has partnerships with most of the big payment companies, including Zip, and it is rapidly expanding into multiple verticals, taking market share from the big banks. When the world returns to normal, this business will have a V-shaped earnings recovery within weeks, unlike other traditional businesses.

As a last word, it’s worth noting the efforts of companies such as Ramsay Healthcare, which stepped up during this once in a century global crisis.

Ramsay took the lead role to tie up with governments around the world to assist with the COVID-19 response effort. It assisted local public hospitals and aged care centres with beds, ventilators and staff. Environmental, social, and corporate governance has been a popular topic of recent times, and efforts such as this should be recognised.

While the path forward is still unclear, one certainty is that recovery is coming. When it does, we are looking at multiple years of earnings growth for many companies that will underpin our equity market.

 

This article was originally posted in ARF here.

Jun Bei Liu is one of our Conference Fund Managers.

 

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