Six keys to finding value in the market

Leanne Pan, 22 Jun 2016

After several months of strong performance, where the market has added over 400 points, finding value has become more challenging.
As always, it’s important not to get carried away with the market’s recent performance, and stay disciplined. There are some influential events coming up including a possible Brexit, a federal election, and what happens if the US Fed decides to move on interest rates?
The combination of stretched valuations and market uncertainty makes caution all the more important. It also makes it a good time to reflect on some keys to finding value in a stock picker’s market:

1. Stick with your thematics: Focusing on certain bigger picture themes provides a context and rationale for investment decisions. There are several themes driving markets currently. Demographic change has been a big driver in the Australian economy. The growth of emerging markets is a longer-term thematic which is still relevant. And Australia’s transition away from resources is still something we consider. Investment themes require a lot of time, thought and analysis. It’s important to stick with them. If you change themes all the time then you may not have a good rationale for investing, and can get caught out.

2. Don’t believe the hype: Being able to look through the hype is investing 101, but it can be harder when the market finds momentum. Hype often comes at the expense of value. But you will always come across hype on the market, it’s unavoidable. Having strong investment criteria helps you to look through the hype and focus on the real essentials, such as quality of the company, the quality of management and so on.

3. Keep things simple: Simplicity means a business which is easily understandable and transparent. If you don’t understand a business, how can you understand its value? As investors we are always concerned and put off by convoluted business structures and opaque balance sheets.

4. Consider stocks with a strong asset backing: Buying in at the right value is critical, because good valuation limits the downside during volatility. Companies with solid asset backing can provide some stability during volatile markets. You need to consider the asset make-up, whether it is sustainable, and you need discipline to buy in at the right price.

5. Consider interest rate impact: Interest rates remain a key influence on valuations. It’s good for investors to understand how interest rates impact values. When you look at the 10-year interest rate movements, they have been coming down. This has been a big driver of valuations. It feels like we are at the bottom now but nobody can say for sure, and at some stage things will turn, affecting valuations again.

6. Don’t forget companies which thrive in tough conditions: Some stocks actually do better when the market environment is tough, and it’s worth considering a few of these. Stocks which do business in the necessities of life, such as healthcare, food, telephone and utilities can do well during volatile times, even if they seem ‘boring’ in good times.