TOL - 25th Jan, 2024
ASX stocks to AVOID: The 10 companies most vulnerable in a crash
Is it time to consider a different approach to guarding your capital against macroeconomic and geopolitical shocks?
Winston Churchill is often credited with saying:
I always avoid prophesying beforehand because it is much better to prophesy after the event has already taken place.
Anticipating macroeconomic turning points and geopolitical events is notoriously challenging. Nevertheless, fund managers and the talking heads on TV are never backwards in coming forward with bold predictions.
Joe Gallagher at Morgans wrote a sobering note earlier this month on how almost all the consensus narratives were wrong in 2023. Joe has kindly allowed me to reproduce that list here.
- Mortgage Cliff? Wrong
- Tech valuations depressed from rising rates: Wrong
- House price collapse on Australia’s east coast: Wrong
- China to invade Taiwan: Wrong
- Banking contagion after multiple regional US banks collapse: Wrong
- Energy crisis in Europe: Wrong
- Inflation will remain high for a long time: Wrong
- Lithium is the best commodity as there is no downside case for EV adoption: Wrong
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One could add an expected hard landing in the US and a resurgent Chinese economy to the list.
It would seem experience is not always an inoculation against ropey forecasting.
Below we show the aggregate forecast earnings of the ASX 300 index in the three years up until each annual reporting season. From 2010 to 2020, analysts were over optimistic in ten out of eleven years inclusive. On average earnings were expected to be a staggering 35% higher than where they ended up. Then, emerging from COVID in 2021 to 2023, analysts were excessively pessimistic three years in a row, underestimating earnings by an average of 15%.
In fairness, the inability to predict important events is not reserved for investors, analysts, and economists.
Here is a list of the seismic events that the CIA, with near unlimited resources failed to foresee.
The collapse of the Soviet Union (1991): The longstanding Cold War dynamic likely contributed to the failure to contemplate the rapid unravelling that followed.
9/11 attacks (2001): Despite several intelligence leads, the CIA failed to anticipate the horrific attacks in the United States.
Weapons of Mass Destruction in Iraq (2003): The war was predicated on the widespread consensus in the intelligence community that Iraq had WMDs. No WMDs were ever found.
Collapse of the Afghan Government (2021): The CIA completely underestimated how rapidly the US-backed government would collapse leading to a hasty evacuation.
Russian invasion of Ukraine (2022): The U.S. intelligence community believed that Russa would quickly conquer Ukraine, failing to appreciate the resilience of the Ukrainian people and the impact of systemic corruption in the Russian miliary complex.
Hamas’ plan to attack Israel (2023): Despite extensive data sharing between the CIA and Mossad, the CIA was blindsided by the attack.
Anticipating shifts in technology is similarly fraught.
"I think there is a world market for maybe five computers" - Thomas Watson, chairman of IBM, 1943.
“Heavier than air flying machines are impossible” - Lord Kelvin, President of the Royal Society, 1876.
"The telephone has too many shortcomings to be seriously considered as a means of communication" - Western Union internal memo, 1876.
"There's no chance that the iPhone is going to get any significant market share. No chance" - Steve Ballmer, Microsoft CEO, 2007
So, as we enter a new year in a world where it is exceedingly difficult to anticipate macro and geopolitical crises, I thought it suitable to highlight the core process we at Plato implement to manage risk and protect capital.
Addressing the forecasting foibles
While it’s clear no one can always anticipate the next shock, we think one of the key responsibilities of active investors is to ensure portfolios will not suffer excessive declines when shocks inevitably occur.
At Plato we measure the impact on our portfolios on a wide range of macro and geopolitical stress events every day.
This means considering scenarios that could impact stock markets (not predicting when or even if they’ll happen at all) and ensuring our downside exposure to these events is limited. This happens both on the long and short side of the Plato Global Alpha Fund portfolio.
Currently, 57 macro and geopolitical stress events are on our radar.
These include shocks to Chinese property, lithium prices, inflationary expectations, to US high yield credit.
Our systems then work to identify companies that would experience outsized impacts should these events take place.
For example, here are the ten companies we estimate would be most adversely affected by a 30% crash in the ASX 300 (one of our current 57 stress events). Despite liking a couple of these companies, we do not hold any of them in Plato Global Alpha because of the extreme downside risk we perceive in the event of a market crash.
|
Name |
GICS sub-Industry |
Return impact of 30% decline in ASX 300 |
|
Sayona Mining Ltd. |
Diversified Metals & Mining |
-74.2 |
|
Core Lithium Ltd |
Diversified Metals & Mining |
-72.5 |
|
Vulcan Energy Resources Ltd. |
Diversified Metals & Mining |
-71.9 |
|
Liontown Resources Limited |
Diversified Metals & Mining |
-71.8 |
|
Syrah Resources Limited |
Diversified Metals & Mining |
-71.8 |
|
NOVONIX Ltd |
Electronic Equipment & Instruments |
-69.1 |
|
Chalice Mining Limited |
Diversified Metals & Mining |
-64.5 |
|
ioneer Limited |
Diversified Metals & Mining |
-63.6 |
|
Renascor Resources Ltd |
Diversified Metals & Mining |
-62.0 |
|
Arafura Rare Earths Limited |
Diversified Metals & Mining |
-61.3 |
Source: Plato Investment Management, 2024. Estimated return impact of 30% decline in ASX 300.
Now, to illustrate how this is implemented when assessing short positions, consider another of our current stress events – a 200bps fall in 10 year treasuries.
We are fundamentally bearish on most of the following highly rate sensitive names and would ordinarily be short several of them, however with the likelihood of rate cuts over the following twelve months, we are keeping our powder dry.
|
Name |
GICS sub-Industry |
Return impact of 200 bps fall in 10 year treasury yields (%) |
|
De Grey Mining Ltd |
Gold |
34.9 |
|
Arafura Rare Earths Limited |
Diversified Metals & Mining |
33.0 |
|
Qoria Limited |
Systems Software |
32.3 |
|
Centaurus Metals Limited |
Diversified Metals & Mining |
31.8 |
|
Liontown Resources Limited |
Diversified Metals & Mining |
31.7 |
|
Calix Ltd. |
Commodity Chemicals |
30.8 |
|
Tietto Minerals Ltd. |
Gold |
30.3 |
|
Evolution Mining Limited |
Gold |
29.4 |
|
Westgold Resources Ltd |
Gold |
29.0 |
|
Genesis Minerals Limited |
Gold |
28.4 |
Source: Plato Investment Management, 2024. Estimated return impact of 200 bps fall in 10-year treasury yields.
We are not claiming this process is bullet-proof – there are many unknowns. Who really knows what will be dominating headlines in world news this time next year?
However, we think this process offers investors a solution to the formidable challenge of guarding you capital against macro and geopolitical shocks in stock markets, while not impeding strong alpha generation.
I'd love to hear your thoughts in the comments section below.
Discover more about the Plato Global Alpha Fund
This article was part of an investor letter recently sent to Plato Global Alpha Fund clients. You can access the full letter and subscribe to receive future letters by emailing plato@pinnacleinvestment.com.
See the latest Plato Global Alpha Fund performance and read more insights on the Plato Investment Management Website.
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David has more than two decades’ experience investing in global equities. Prior to joining Plato Investment Management he worked for JP Morgan Asset Management in London for fifteen years becoming one of the youngest managing directors in the firm’s history. He managed the JP Morgan Europe Equity Plus active-extension fund which was closed to new investors after growing to €6 billion, generating 4% p.a. net alpha over ten years. He also launched and managed the JP Morgan Europe Equity Absolute Alpha Market Neutral fund. In its first twelve months of operation, the fund returned over 20%, and grew assets to €1 bn. In 2014 he was the European Hedge Fund Manager of the Year (UCITS).
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This communication is prepared by Plato Investment Management Limited (‘Plato’) (ABN 77 120 730 136, AFSL 504616) as the investment manager of the Plato Global Net Zero Hedge Fund (ARSN 654 914 048) (‘the Fund’). Pinnacle Fund Services Limited (‘PFSL’) (ABN 29 082 494 362, AFSL 238371) is the product issuer of the Fund. PFSL is not licensed to provide financial product advice. PFSL is a wholly-owned subsidiary of the Pinnacle Investment Management Group Limited (‘Pinnacle’) (ABN 22 100 325 184). The Product Disclosure Statement (‘PDS’) and Target Market Determination (‘TMD’) of the Fund are available via the links below. Any potential investor should consider the PDS and TMD before deciding whether to acquire, or continue to hold units in, the Fund.
Link to the Product Disclosure Statement: https://plato.com.au/wp-content/uploads/Plato-Global-Net-Zero-Hedge-Fund-PDS.pdf
Link to the Target Market Determination: https://plato.com.au/wp-content/uploads/Plato-Global-Net-Zero-Hedge-Fund-TMD.pdf
For historic TMD’s please contact Pinnacle client service Phone 1300 010 311 or Email service@pinnacleinvestment.com
This communication is for general information only. It is not intended as a securities recommendation or statement of opinion intended to influence a person or persons in making a decision in relation to investment. It has been prepared without taking account of any person’s objectives, financial situation or needs. Any persons relying on this information should obtain professional advice before doing so. Past performance is for illustrative purposes only and is not indicative of future performance.
Whilst Plato, PFSL and Pinnacle believe the information contained in this communication is reliable, no warranty is given as to its accuracy, reliability or completeness and persons relying on this information do so at their own risk. Subject to any liability which cannot be excluded under the relevant laws, Plato, PFSL and Pinnacle disclaim all liability to any person relying on the information contained in this communication in respect of any loss or damage (including consequential loss or damage), however caused, which may be suffered or arise directly or indirectly in respect of such information. This disclaimer extends to any entity that may distribute this communication.
Any opinions and forecasts reflect the judgment and assumptions of Plato and its representatives on the basis of information available as at the date of publication and may later change without notice. Any projections contained in this presentation are estimates only and may not be realised in the future.
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David has more than two decades’ experience investing in global equities. Prior to joining Plato Investment Management he worked for JP Morgan Asset Management in London for fifteen years becoming one of the youngest managing directors in the...
Expertise
David has more than two decades’ experience investing in global equities. Prior to joining Plato Investment Management he worked for JP Morgan Asset Management in London for fifteen years becoming one of the youngest managing directors in the...
Expertise
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