Tax loss selling is already gaining momentum

James Gerrish

Market Matters

The ASX200 gained 24 points yesterday, taking the index within striking distance of this month’s 6403 high although we are still only in June’s first trading week. Under the hood the story was very mixed with the “Big Four” banks advancing an average of +0.5% while the large-cap miners fell courtesy of a pullback in iron ore e.g. Rio Tinto (RIO) and Fortescue Group (FMG) both fell -2.8%. The index is feeling a little tired after its 20% rally since December but while the jockeying for position by stocks into EOFY has begun there still remains the noticeable characteristic of a clear lack of conviction selling.

One major standout during our trading day actually unfolded on the electronic US Mini S&P futures market, which gapped down hard on the opening following the news that no deal had been reached between the US and Mexico from their latest talks. However, they proceeded to grind higher all day and by 9pm last night they were actually up +0.3%, illustrating that US stocks are keen to rally from current levels assuming they are not negatively influenced by geopolitical news – a big if with President Trump and his Twitter account.

At MM we are almost fully invested in local equities through our Platinum Portfolio but our intention remains to increase our cash position into further strength, ideally into fresh 2019 highs.

MM is now neutral the ASX200 unless we see a close back above 6450 but we are net bullish global equities for now.

Overnight US stocks were again strong with the Dow rallying 181 points, taking the last three-day advance to ~900-points, the ASX200 is poised to open up over +0.5% this morning led by BHP which traded up 2% in the US.

In today’s report we have looked at some stocks that have endured a very tough 12 months, making them prime candidates for tax loss selling. The two questions are:

1 - Should we sell some/any stocks we hold from this group in the MM Portfolios’?
2 – Are there any stocks we like into aggressive “tax loss” selling as potential accumulate candidates?

ASX200 Chart

Iron ore is finally experiencing a meaningful correction which should come as no great surprise to investors following its ~65% surge after the Vale disaster in Brazil. Over the last seven trading days the 8% pullback in the bulk commodity has impacted the majors in a slightly magnified manner, e.g. Fortescue (FMG) -11.8% and Rio Tinto (RIO) -10.4%.

NB. With the FMG retracement we have taken the 60c fully franked dividend into account.

MM remains bullish RIO around $96 = basically now.

Iron Ore Futures (CNY/MT) Chart

RIO Tinto (RIO) Chart

The opposite of investors selling stocks to lock in tax losses are obviously those that have enjoyed a good year with ResMed (RMD), which we own in the MM Platinum Portfolio, fitting the bill. RMD caught my eye yesterday as it made fresh all-time highs and is sitting up almost 20% for the year, even after experiencing a sharp 23.6% dip early in 2019 which is where we bought it.

MM is looking to take profits from our RMD position into further strength.

ResMed (RMD) Chart

Prime candidates for “tax loss” selling.

Moving onto some of the worst performing stocks from the ASX200 over the last 12 months, not healthy reading for investors with too much exposure to this “motley crew”. We have only considered the seven stocks who have fallen by over 50% but there were also 10 stocks which are down between 40% & 50% for the year including the likes of AMP Ltd (AMP) and Western Areas (WSA).

1 Emeco Holdings (EHL) -53% : The leaser of earth moving equipment has disappointed the market since its test of $4 back in June 2018, we caught this falling knife a few months ago and it was looking okay before this weeks plunge, potentially early tax loss selling.

2 Eclipx (ECX) -59% : The fleet management business has struggled after plunging profits and a failed merger with McMillan Shakespeare (MMS). Our call to buy ECX as a “trade” has worked perfectly but we are now back to a neutral stance.

3 Costa Group (CGC) -54% : The grower/marketer of fruit and vegetables has endured a tough 12 months following three downgrades, we unfortunately have been caught by the third shock last week which came from left field.

4 Galaxy Resources (GXY) -58% : This lithium stock has struggled like the whole sector as its potential profitability/viability has been questioned as future productivity and hence supply is being ramped up.

5 Syrah Resources (SYR) -64% : Mineral exploration business with a major interest in graphite has struggled due to soft earnings and failure to deliver by its spherical graphite mine in Mozambique – the largest in the world. A comparable story to GXY.

6 Bellamys (BAL) -55% : Tasmanian-based infant food company has struggled with its Chinese exposure as trade tensions rise and increasing competition from global heavyweights Danone and Nestle plus the likes of Bubs Australia (BUB) with the barriers to enter low and no patent protection.

7 Nufarm (NUF) -60% : Agricultural and chemical business NUF has struggled because of the Australian drought and issues around potential lawsuits because of its glyphosate weed killer.

Earlier in the week we saw some of the recent underperformers catch a clear bid tone as it appeared confidence was returning to the group courtesy of a confirmed lower interest rate environment for the foreseeable future. However, yesterday the sharp declines in Emeco (EHL) and Syrah Resources (SYR) implies the tax loss selling has commenced in earnest.

The usual characteristic of stocks caught in these cross hairs is down hard into ~third week of June followed by a reasonable recovery in early July i.e. if you’re going to sell go early.

“Tax loss selling is simply when an investor realises a loss on a poor investment to offset a winner (s) elsewhere and reduce capital gains tax obligations."

We are concerned by a few of our stocks in the MM portfolio that have started underperforming recently as it appears fund managers are clearing their decks. Plus last weeks downgrade by Costa Group (CGC) probably has a few investors concerned that the dogs of 2018/19 have another downgrade up their sleeve. Today we have taken a closer look at the last three on the above list as we consider if/where we might have interest to buy.

1 Syrah Resources (SYR) $1.10.

SYR is another lithium-ion battery tale of woe from a share price performance perspective. The business has been hit with the painful combination of lower product prices and higher than anticipated costs.

The stock also has the unenviable position of being the third-most shorted stock on the ASX with almost a 15% short position, and these bears have clearly been correct so far. However, technically the stock might be interesting into a failed foray below 97c.

MM is neutral SYR at current prices.

Syrah Resources (SYR) Chart

2 Bellamys (BAL) $7.74.

Infant food company BAL feels like it's in the correct sector but its stock has been smashed this year with global competition my main concern, while changing regulation in China is always an issue. The likes of Nestle have targeted the lucrative baby formula market in China, taking sales from BAL while on the regulatory front, BAL is still waiting for the greenlight to manufacture key products at its Camperdown factory which is needed for it to sell its products in the Chinese market. Adding further complexity to the sector this week was news that China intends to be at least 60% self-sufficient for infant formula, although no time frame was given for this. Clearly a lot of moving parts.

While BAL is a growth stock trading on an estimated P/E for 2019 of around 20x, making it sound cheap compared to some, the FY19 growth has been weak with the focus now firmly on FY20.

Technically BAL will look interesting ~$6 i.e. significantly lower.

MM is neutral BAL at current levels.

Bellamys (BAL) Chart

3 Nufarm (NUF) $3.67.

NUF is impulsing to the downside and this is one falling knife where the bottom could be lower than many imagine. Markets hate uncertainty and NUF has it in spades.

I would never use a glyphosate weed killer like Roundup, and although NUF does not manufacture the chemical it does buy it for use in the likes of Roundup sold over the counter at Bunnings. Litigation is an increasing issue looming for NUF following on the heels of three huge successful cases in the US due to its link to non-Hodgkin Lymphoma – there are an amazing 13,000 pending cases against the chemicals inventor Monsanto.

Interestingly, Bunnings will now refund Roundup purchases, even if part used, with no questions asked.

MM has zero interest in NUF.

Nufarm (NUF) Chart

Conclusion (s)

Sorry no stocks on our buy radar from the tax loss selling group today.

Global Indices

Nothing new with our preferred scenario the recent pullback was a buying opportunity although we are only looking for a test of/slight new 2019 highs from US indices.

US S&P500 Index Chart

No change again with European indices, we remain cautious European stocks but the tone has improved in 2019.

German DAX Chart

Overnight Market Matters Wrap

· The US rallied for its third consecutive session, following reports that US President Trump may delay imposing tariffs on Mexico, with Mexican officials talking of a willingness by the US to reach a deal.

· President Trump however also told reporters that he is prepared to place tariffs on another $US300 billion in Chinese imports. That decision will be made after the G-20 summit in Japan at the end of the month.

· BHP is expected to outperform the broader market after ending its US session up an equivalent of 1.91% from Australia’s previous close.

· The June SPI Futures is indicating the ASX 200 to open 28 points higher, towards the 6410 level this morning.

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James Gerrish
Portfolio Manager
Market Matters

James is the Lead Portfolio Manager & primary author at Market Matters, a digital advice & investment platform with over 2500 members that offers real market intel & portfolios open for investment. He is also a Senior Portfolio Manager at Shaw and...

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