Devon Funds Morning Note - 3 February 2023

Friday 3rd February 2023

Before getting into the markets, we are delighted to announce that Devon has been recognised in another set of awards. Morningstar has announced Devon as a finalist for Overall Fund Manager of the Year for the 2022 Morningstar NZ Awards. The Devon Dividend Yield and Trans-Tasman funds have also made the final three for Fund Manager of the Year – Domestic Equities. We are honoured to receive such recognition, which we believe is reflective of the strong performance the Devon funds have delivered for our clients over the course of what was a challenging year for investors.

Global

Stock markets soared overnight with investors taking the view that interest rates are close to peaking, with officials acknowledging that ‘disinflationary processes’ are well underway. The Bank of England raised rates by 50bps but indicated that the tightening cycle was nearing an end, with officials now expecting any recession to be short and sharp. The ECB also raised by 50bps, vowing to stay the course, but also recognising that inflationary pressures were easing. Meta Platforms stoked the positive mood even further, smashing revenue forecasts, which saw the shares surge by 23%, the stock’s best one day performance in a decade.

The Dow was slightly lower as healthcare stocks weighed, but the S&P500 was 1.5% higher. The Nasdaq rocketed 3.3% higher. All three indices are up strongly year to date.

Rocket man. Wednesday’s speech from Jerome Powell post the Fed meeting has provided cause for markets to continue the strong rebound that has been seen so far this year. The Fed Chair talked the talk about staying the course against inflation but acknowledged that it was coming down. Powell also sees a soft economic landing. Markets really liked that, and this would be some feat given an aggressive rate tightening program which is nearing its end.

There was a similar ‘better than feared’ message from the Bank of England, which raised rates to 4% but forecast a shorter and shallower recession than set out in its November projections. Officials previously forecast that the UK economy would enter its longest recession on record, but recent GDP prints have surprised on the upside.

The UK economy is now expected to contract slightly throughout 2023 and the first quarter of 2024. The UK is still set to lag other economies, but the downturn is set to be nowhere near as bad as anticipated. Interest rates are no longer expected to increase “forcefully” and are set to top out at 4.5%, with inflation forecast to go below the bank’s 2% target by the end of next year. The FTSE rose 0.8%.

The European indices powered ahead, with the STOXX50 up 1.8%. The ECB was arguably more hawkish that the Fed/BoE, flagging another 50bps hike at the next meeting. However, markets read between the lines. Bond yields sank as ECB President Christine Lagarde (who like Powell said there was further ‘work to do’) acknowledged that the risks to the Euro area’s economic growth and inflation have become more “balanced.” She said it was likely the pace of hikes could slow from May onwards. The Eurozone economy has also proved more resilient than expected.

Reaching the mountain top – official rates in the US, UK and Europe

Globally, officials appear to be saying that while the war against inflation has not been won yet, the finish line is in sight. This is while economies may escape the outcomes priced in by markets last year. Ahead of the US jobs report tonight, initial weekly jobless claims came in lower than expected. A report from Germany also showed that supply chain issues appear to be easing in Europe’s largest economy.

It is a similar story with the corporate landscape. Meta shares jumped after fourth quarter revenues trounced expectations. The company announced a US$40 billion buyback. Mark Zuckerberg’s journey into the Metaverse is still creating a lot of red ink (some US$13.7b last year). The surge in Meta shares also comes following a huge amount of value destruction since the pandemic peak – the shares remain down 50% over the past 18 months.

The technology sector has been a poster child for the huge surge in growth stocks during Covid, and a subsequent harsh reality check as interest rates rose. The sector is now leading the way in terms of the market rebound. Results from the big trio of Apple, Amazon and Alphabet will be in focus after the bell (more on these on Tuesday). Microsoft, held in the Devon Global Sustainability Fund, rose 3.7% overnight.

Elsewhere FedEx shares jumped 6% after it announced that 10% of its officers and directors will go as part of cost-cutting measures. Across the Atlantic, Royal Dutch Shell was 1% lower despite reporting a doubling of annual profits to a record US$39.9bn due to surging gas prices. Dividends were increased as were buybacks. Calls have grown from UK Opposition MPs for the government to bring in tougher windfall taxes as consumers prepare for a 40% rise in energy costs this April.

New Zealand

The kiwi market also pushed higher following the Fed meeting and Jerome Powell’s announcement, with the NZX50 climbing 0.51% to 12,152. The kiwi dollar also rose by almost a cent on the view the peak rate hikes are in for the US.

With the Fed, Bank of England, and ECB effectively all acknowledging that global disinflationary processes are underway, and that rates are nearing their peak, it will be interesting to see what the RBNZ does in a few weeks’ time. Central banks do not operate in silos, and typically a degree of implicit co-ordination exists. The New Zealand central bank has however marched to a slightly different beat at times.

It is unquestionable that external/offshore inflationary drivers are moderating. Domestic inflation has remained sticky, and this will not be helped by the floods. The jobless rate however has ticked up, which may signal that labour market tightness will ease. Will the RBNZ see the bigger picture? Time will tell.

Shares in Fletcher Building rose 1.7% to $5.34. Stats NZ reported that the number of new homes consented in the North Island fell 2.6% last year, but those in the South Island rose. The floods will however drive an uptick in activity in the upper North Island, with many homes (and infrastructure) needing to be repaired or replaced.

SkyCity Entertainment Group had a very strong day, gaining 3.2% to $2.60. Devon Funds CIO Mark Brown has noted that with markets having risen strongly this year, there has been some value hunting amongst beaten up stocks. He noted that while regulatory matters hang over the company’s Adelaide operation, Sky City has a fundamentally strong business operationally. Perhaps also a place for many to hide from all the wet weather.

Australia

In Australia the market rose on Thursday, with the ASX200 adding 0.13% to 7,511. Technology stocks were in demand as the expectation-beating results from Meta came in after US markets had closed. Accounting software group Xero rallied 7.5%, while employment portal Seek climbed 4.6%. Digitally focussed media stocks Nine Entertainment and oOh!Media were also amongst the gainers, up 5.4% and 4.6% respectively.

The healthcare sector also outperformed. Shares in blood plasma giant CSL rose 1% to A$304.58, the highest level since November 2021. CSL is held across a number of the Devon funds.

Miners were weaker, but there has been good news for the sector, with a thaw in the frosty relations between Beijing and Canberra. After a 2½ year (unofficial) ban the first shipments of Australian coal are reportedly set to arrive in China. As many as five coal ships are said to be on route. Backing up the boat. China will need a lot of Australian commodities as officials look to play catch up on economic growth targets.

The RBA meeting is next week, and it will be interesting to see whether officials stick to the hymn sheet, and the messages from various major central banks this week that inflation is getting under control, and rates are peaking. A 25bps increase is expected. An easing of the pace of rate hikes already seems to be anticipated by some sectors. The ABS reported yesterday that the total number of dwellings approved rose 18.5% in December.

Wishing all our clients a happy Waitangi day, and a fantastic long weekend!

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