Investors should brace for a string of profit downgrades as the global economic downturn hits Australia somewhere between early ­December and February.

That’s the view of WaveStone Capital director Catherine Allfrey, who says that corporates are in a twilight zone between the difficult times later this year and the strong earnings from the bounce out of the Covid-19 pandemic.

“We are waiting for the profit downgrades to come through in the US and Australia,” she said in an interview with The Australian.

“Rates are going to go up and consumption is going to be hit. It’s a question of when that is going to happen. Everyone knows the slowdown is coming,” she said.

“When we ask companies when they think it is going to happen, their answers range from early December to the back-to-school period in February.”

Ms Allfrey was speaking ahead of her first appearance at the annual Sohn Hearts & Minds investment conference to be held in Hobart in November.

The Sohn conference, which sees top fund managers give their stock tips, has raised more than $40m for medical research since it began in Australia in 2016, inspired by a similar event started in New York in 1995 in memory of Wall Street fund manager Ira Sohn, who died of cancer aged 29.

Ms Allfrey says her stock tip would be in line with the investment approach at WaveStone, which she co-founded in 2006, of looking for “quality companies with a sustainable competitive ­advantage at a reasonable price”.

“We have a very tight process (of stock selection),” she says. “We are value orientated.”

WaveStone, which is 32.5 per cent owned by the ASX-listed Challenger Group, has some $5bn in funds under management, $1bn in retail investment and another $4bn invested on behalf of super fund and institutional investors.

It invests in Australian companies and they must be profitable or expect to be within 12 months. The portfolio includes Qantas, ResMed, Woodside, Santos, CSL, Carsales and Aristocrat.

In selecting her stock tip, Ms Allfrey says she will also keep in mind Sohn’s preference for talking about companies that are seen as disruptive. “I’m looking at a few candidates, but I haven’t chosen one yet because the markets are so volatile,” she said.

Ms Allfrey said she and her WaveStone colleagues, including co-founder Raaz Bhuyan, were “frustrated” during the recent bull market seeing speculative companies were fetching high prices.

“We got very frustrated after Covid when interest rates went to zero. The stock prices of non-profitable companies, which we don’t invest in, went to the moon,” she said. “It was just ridiculous. But now that has been reversed, it has been fabulous. Now we have a cost of capital and a valuation discipline back in the market, which is really pleasing to see.”

Ms Allfrey said the pandemic changed the landscape for some companies in Australia, such as Qantas, which she says emerged from Covid-19 in a much stronger position in the market.

“Rule one of investing is never own an airline,” she said. “Rule two is don’t ignore rule one.”

But Qantas has bounced back strongly from the pandemic with increased market share, which will continue at least into the medium term while Virgin Australia, now in the hands of private equity, is focused on profitability, she said.

Ms Allfrey sees ResMed as another stock which has also come through Covid-19 well – one with more upside if it can get through issues with its supply chain.

When Ms Allfrey and her colleagues were setting up shop, they originally went with WaterStone.

But they got an irate email from a US hedge fund of the same name ordering them to drop the name. “When we got a second one we hurriedly changed the name,” she said. “But they didn’t survive the GFC and we are still here.”

 

 

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