Defensive stock picks
First the profit foundations of the construction sector crumbled. Then the resource cycle spun dangerously down. African Bank’s travails questioned the fundamentals in the burgeoning unsecured lending sector. Later local property prospects (and yields) dimmed, and industrials floundered in a perfect storm of higher energy costs, inflexible labour and poor demand. The energy sector slipped when crude oil slumped. Then “Nenegate” undermined confidence in banking and retail stocks.
And now Brexit has cast a pall across many of the JSE’s heavyweight rand hedge shares that buoyed sentiment. Is there any place left for local investors to run?
The fact that gold shares and physical bullion have been bandied about as a “sheltering asset class” suggests we are once again in vortex of fear and uncertainty.
The implications of Brexit for the world economy, let alone the SA economy, will become apparent only in the months ahead. But, as the old market adage goes: “If you are going to panic, make sure you panic first.”
At this point there are any number of starkly contrasting theoretical rants being spewed by any number of experts. This probably means many local investors will be tempted to shift to the sidelines until a more definitive outlook can be established in the Brexit aftermath.
No doubt braver investors will look to picking up bargains. Indeed there are stocks — with well reinforced balance sheets, stout asset registers and strong brands — that have been marked down rather viciously. Luxury brands group Richemont* and Londonfocused property developer Capital & Counties (Capco)* spring to mind. But picking the “bottom” may not be easy with investment sentiment showing signs of irrationality.
Price movements in stocks with a UK flavour will also be worth monitoring — including private hospitals group Netcare; gaming group Phumelela; financial services groups Old Mutual, Peregrine and Coronation; Tradehold (which owns a slew of British real estate); Brait (which controls two UK-based retailers in First Look and Iceland); and Santova Logistics (which has a relatively small exposure to the UK market).
Those not wanting to cool their heels on the sidelines might build a defensive portfolio capable of withstanding a barrage of Brexit negativity. Key components of a defensive stock are reliable cash flows, a well reinforced niche, stout margins, unflappable management, strong brands and, if possible, some rand hedge qualities.
“Sin” stocks are usually impenetrable bastions in jittery times. Dividend pumping cigarette giant British American Tobacco (BAT) — which has remarkable pricing power (to offset a diminishing market), superb management and a compelling emerging market flavour — is probably the safest. BAT won’t shoot out the lights but will smoulder reassuringly even when sentiment turns icy.
Gaming stocks, which are strongly cash generative, could be Brexit antidotes. The SA casino sector is showing signs of growth again, and investors have to choose between Tsogo Sun (with a predominantly SA focus) and Sun International (with a substantial offshore component in its Latin American operations). The biggest local casinos in both Tsogo and Sun operate on margins of over 45%, and there is probably scope to sharpen returns by offloading smaller casino operations and noncore leisure properties.
The JSE, the company operating the local stock exchange and other markets, might also be a useful defensive play. It’s virtually a monopoly, but the management team are determined to drive technological efficiencies and new products. The basic premise is that the more volatility on the stock market the higher the trading volumes, which in turn should benefit the JSE.
Punters might also look at counters that offer essential services. Vehicle tracking and fleet management specialist Cartrack and PSG-aligned CSG Holdings (which now offers security and cleaning services) are trading at earnings multiples that might belie their immediate earnings potential as well as longer-term growth that might be enhanced by corporate action. The same goes for security technology group Amalgamated Electronic Corp, which has hardly been recognised for its long-term growth in earnings, cash flows and dividends.
Blue Label Telecoms and ISA Holdings are technology-based service providers in the prepaid and security areas, respectively. Both generate reassuring cash flows, and hold defendable market niches. Blue Label is angling for a stake in Cell C, which might be a game changer if profitable traction is established for SA’s third-largest mobile operator in the medium term.
A basket of food counters could also help settle investor stomach upsets from Brexit. Fishing companies have not traditionally been on the menu for local investors, but Oceana offers a well-priced spread of seafood from Lucky Star canned pilchards to rock lobster as well as a promising holding in a fish-meal and fish oil business in Louisiana in the US. Brexit will not slacken Oceana’s lines — even in its export-orientated segments. Astral Foods, the big bird of the JSE’s poultry sector, is far removed from Brexit commentators and offers a reasonably priced entry into what is a staple protein segment for SA (and African) consumers. Smaller poultry play Quantum Foods is not as plump as Astral, but longer-term prospects might not be nearly as lean as the depressed earnings multiple suggests.
There are also small cap counters that have proved their worth through thick and thin and whose operations are unlikely to be upset by Brexit. Among these are building supplies specialist Afrimat; packaging group Bowler Metcalf; restaurant franchiser Spur Corp; private hospitals conglomerate Mediclinic International; storage specialist Metrofile; or private education provider AdvTech.
Value acolytes can also take some reassurance that there is limited downside or Brexit fall-out in a handful of investment counters with exposure mainly to unlisted companies. These include Sabvest (anchored on its holding in global textile maker SA Bias Industries), AEEI (export-orientated Premier Fishing), Tiso Blackstar (which heavily discounts its media assets), and RECM & Calibre (betting big on fast-growing alternative gaming group Goldrush). The writer was a buyer of Richemont and Capco on Monday