MEDIA RELEASE: Cost of living pressures are on the rise, with many Australian consumers changing their buying behaviour, but according to Ron Sargeant, portfolio specialist at Touchstone Asset Management, a technical recession is unlikely for Australia, for two key reasons.
“A lot of the commentary about a potential recession that is making headlines is quoting data from the United States. It’s important to make a distinction and be careful about applying that same data to Australia.”
“There are two reasons why a technical recession is unlikely to happen on our soil – China’s reopening and immigration influx,” says Sargeant.
Sargeant says that with China’s reopening there is a positive boost to Australia’s trade sector, and this should do relatively well. Additionally, post-COVID Australia has a very strong immigration stream coming through.
“Even though you might see a per capita recession, overall, we think Australia might just get through without a technical recession,” says Sargeant.
“However, a US recession will still affect Australian equity markets even if our economy is relatively resilient”.
“A US recession will affect the global economy. Regardless of how well Australia does to avoid its own local one, markets globally will be affected by lower appetite for risk assets and reduced liquidity.
“So we will still see some impact on our stock market, even though it might not be as pronounced as if we had a recession ourselves,” says Sargeant.
Touchstone Asset Management continues to implement its existing strategy of owning quality companies regardless of the economic cycle. Sargeant adds that although the market is in an uncertain economic environment, quality companies can still be identified and added to the portfolio.
“Always own quality, just be careful that you don't overpay for it. This strategy has generally worked well for us and is particularly effective in any sort of cycle where you've got a lot of uncertainty, and of course, that's right now.
“Some investors focus almost entirely on trying to work out what earnings are going to be and then try and derive valuations. Their assessment of the quality and sustainability of earnings can be very subjective and inconsistent. We leverage our team’s experience by using a qualitative approach to assess many aspects of a company’s quality with those insights, then input into a quantitative framework. This systematic approach includes evaluating the strength of the balance sheet, the board, management, the industry structure and other factors, such as ESG.
“Quality is unusual in that you can get a company that is very high quality, but if it has one chink in its armour and you go into a tougher economic environment, that one chink can lead to a significant fall in value,” says Sargeant. "In general, high quality companies, like Wesfarmers for example, find ways to create value regardless of the economic cycle. Lower quality businesses, or business in lower quality industries, can often see their value fall, sometimes in spite of quite sensible business strategies.”
Looking at the current market valuations, Sargeant says that the industrials ex-financials are trading at multiples over 23 times, with long-term average in the high teens, whereas resources are trading well below average.
“Resources are trading at 10 times multiples versus the average of around 14 times, which reflects an expectation that commodity prices will come down, as they generally do during a US recession.
“Putting that all into the mix, we are wary of some of the more expensive industrials where we think there's margin risk, but we think some of the resources look more attractive, and in fact we have been able to add new stocks recently to the portfolio where we think the market has maybe taken too short-a-term view.
“These stocks reflect high quality, but they’re better priced than you would otherwise expect. The producer of separated rare earth materials, Lynas Rare Earths is a great example of that,” says Sargeant.
