Keeping some ‘dry powder’ should opportunities arise

After 5 consecutive months of gains for the Australian stock market the spell was broken in September with the market falling 3.6%. Your fund experienced a more modest fall of 1.2%.

Top Holdings (alphabetically)

Ampol Limited Australia Energy

BHP Group Ltd Australia Materials

CBA Australia Financials

NAB Australia Financials

Spark New Zealand Ltd New Zealand Communication Services

Telstra Australia Communication Services

Waypoint Reit Ltd Australia Real Estate

Westpac Australia Financials

Woolworths Australia Consumer Staples

Z Energy New Zealand Energy

Whilst a fall of 3.6% for the market is not immaterial, we do not necessarily see it as a portent of worse to come. Rather, we believe the market is in a consolidation phase after the strong rebound from the March lows. As we have cautioned in our last couple of newsletters, we believe that there needs to be a solid ground for stocks to re-rate further, most likely in the form of more positive economic data or from the advent of a vaccine to combat COVID-19.

In the absence of either, the market is likely to be dominated by the upcoming US Presidential Election in early November. Another source of uncertainty for the market is the ongoing Brexit saga with the 31-Dec-20 deadline looming.

The recent annual reporting season was free of major surprises for our portfolio of companies and, as a result, the portfolio was broadly unchanged throughout September, with no additions or deletions. Our cash weighting is around 13%, reflecting some caution and the wish to keep some ‘dry powder’ should opportunities arise.

Turning to specifics, 2 of the top 3 contributors for the fund for September were NZ companies. Firstly, SkyCity Entertainment Group reported its FY20 annual result at the beginning of the month, beating expectations and foreshadowing a quicker return to paying dividends than expected. Its main asset is its monopoly Auckland casino which is a true local “grind” casino, not reliant on international visitors. Assuming no further lockdowns in Auckland, the casino should trade profitably enough based on local demand whilst being leveraged to an increase in tourism from overseas.

Contact Energy, a vertically-integrated generator and retailer (“gentailer”) of electricity, benefitted from the announcement from the NZ Government that it was negotiating with Rio Tinto to delay the closure of its aluminium smelter, the largest single user of electricity in NZ, accounting for 13% of the country’s total demand. Given its largely renewable generation portfolios, where the marginal cost of producing electricity is very low, the value of an NZ gentailer such as Contact Energy is derived mostly from the wholesale price of electricity. Having the largest single consumer of electricity stick around for another 4 or 5 years would be a huge positive for wholesale power prices and, therefore, for Contact Energy.

Arena REIT (ARF) was the fund’s third strongest contributor for the month. With a portfolio of predominantly childcare assets, the market is becoming more comfortable that the long-term demand for childcare, and associated government subsidies to ensure its affordability, will remain undiminished in a post-COVID world.