Fund managers say commodities rally not backed by fundamentals

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This was published 8 years ago

Fund managers say commodities rally not backed by fundamentals

By Vanessa Desloires
Updated

The stunning rally in commodity-related stocks on the Australian sharemarket may be a sign investors are becoming comfortable with the outlook for China, but the underlying challenges facing the sector remain, fund managers warn.

A rally that led the S&P/ASX 200 to post its best week in almost four years on Friday was fuelled by strong buying in energy and mining companies.

Australia's cashed up pure-play coal miners say they are looking at acquisitions.

Australia's cashed up pure-play coal miners say they are looking at acquisitions.Credit: Rob Homer

Since September 29, when the market plummeted 4 per cent to close at its lowest point in two years, the materials sub-index has soared 14.2 per cent, while energy has risen 17.7 per cent.

Leading the charge have been Australia's two biggest miners. BHP Billiton has risen 10.6 per cent in the space of a fortnight, while Rio Tinto has gained 13.2 per cent. It is a stark turnaround from the nadir in which both companies were sold off heavily and BHP fell 6.6 per cent in one day.

The commodity-related stock rally has been helped by a pause in the pessimism over China, but its outlook is still murky.

The commodity-related stock rally has been helped by a pause in the pessimism over China, but its outlook is still murky.

Angus Gluskie, managing director of White Funds Management, said a confluence of factors drove the rally.

"Oil prices have bounced noticeably off their lows and the energy sector rally has mirrored this," he said.

Pause on China pessimism

The pessimism over China had paused, he said, with some recent data suggesting its slowdown may be easing, improving the export outlook.

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Meanwhile, after the savage sell-off in the preceding weeks, short sellers had raced to cover their positions, Mr Gluskie said.

Kate Howitt, portfolio manager at Fidelity's Australian Opportunities Fund, said the rally appeared to be more of an snap-back from an extreme sell-off than any change in fundamentals.

"In the miners, you've reached the point of seller fatigue," she said.

But the fundamentals for the miners had not improved, Ms Howitt said.

"The stocks don't look extraordinarily cheap, they are not trading on vast P/E [price-earnings ratio] discounts, nor trading on exceptionally high dividend or cash flow yields relative to the broader market," she said.

The only "green shoots" may be movement at the margins on the prospects of China that may improve commodity prices, she said.

Indeed, Mr Gluskie said a continuation of the rally depended on news from China.

China growth 'maturing'

"There is the potential for investors to become more comfortable that Chinese data is showing a maturing of growth, rather than a collapse," he said, with data pointing to this scenario.

"Should this line of thought develop, there may be some continuation of the recent relief rally."

Most commodity markets were still over supplied, however, and when the US Federal Reserve finally lifts interest rates, which will in turn strengthen the US dollar, that will keep the pressure on both commodity prices and resources stocks' earnings, Mr Gluskie said.

"This is not only likely to limit the extent of any rally, but may also promote some further bouts of mining-related stock weakness."

So what to buy? The so-called "defensive" stocks, those that are less susceptible to economic cycles, have lagged since September 29. The health index is up just 3.3 per cent compared with the ASX 200 which is up 7.4 per cent, while the industrials sector has risen 3.4 per cent.

Ms Howitt said some of these stocks, including Qantas and Transurban, which fell 4.2 per cent and 3.9 per cent respectively in that period, were victims of their own success.

"For stocks that have run up the most, it is just logical for investors to take some profit off the table," she said.

In a low-interest rate and low-growth environment, where assets had been bid up for years through excess liquidity, defensive stocks remained the "least bad" option, Ms Howitt said.

"Commodity stocks that have sold off are good trading opportunities but how much more is left in them? It becomes a riskier game from here," she said.

Leanne Pan, co-chief investment officer at Prime Value Asset Management, said as well as high yielding stocks, which were still attractive in a low-interest rate, low-growth world, gold miners were also a good buy.

"The market as a whole is still very much in a volatile period. Whenever there's upheaval, it's good for gold," Ms Pan said.

"I'm not sure whether it's going to give you a huge return, it comes down to the company fundamentals ... it's more portfolio insurance than looking for a huge return."

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