November was a busy month as markets around the world flipped between ‘risk on’ and ‘risk off’. This was largely driven by frequent headlines of supply chain constraints, inflation, and tightening monetary policies. A new coronavirus variant, Omicron, emerged late in the month, creating further unease. At this point it’s too early to understand the potential implications of Omicron. We are treating its discovery as a reason to be cautious as opposed to reactive.
Given the volatility in equity markets, it comes as little surprise that the Conservative Fund was the best performer, returning -0.64%, while the Growth Fund and the Focused Growth Fund returned -1.66% and -1.55% respectively as they have higher exposure to equities. The Focused Growth Trust returned -1.45%.
World equity markets fell in November, as concern over incrementally less monetary support from the US’ Federal Reserve led some investors to take profits in stocks that have risen 15.9% in 2021. However, this moderate pullback masked some material moves below the surface with both high growth (but not yet profitable) tech stocks and former work-from-home favourites all suffering material falls. ARK Investments’ Innovation Fund (-12.9%), video conferencing app Zoom (-23.0%), and home exercise company Peloton (-51.9%) were some of the more notable moves for the month. (For clarity, Generate does not own the aforementioned companies.)
US homebuilder stocks NVR and Pulte Homes were our strongest performers in the month, rising 6.2% and 5.0% respectively (note all returns in this section are in local currency), as the US housing market continued its recent strength. We invested in these stocks during September and October because they’re high-quality businesses whose resilience is under-appreciated by the market, and the stocks were available at a very attractive valuation due to the market’s misplaced fears of another housing down-turn. Our investment in these businesses has worked out well so far, and we intend to continue owning them for years to come.
Amazon (+3.9%) also had a strong month during November as it recovered from recent underperformance, as did semiconductor manufacturing giant TSMC (+3.4%).
Chinese internet giant Alibaba couldn’t continue its strong performance from October, unfortunately, as it fell -22.5% in November after reporting slower growth in its core eCommerce business and lower profits overall as the company invests in higher growth areas such as international eCommerce and its AliCloud business. Astra Zeneca (-15.7%) also saw its October gains unwound during November weakness, with competitor Pfizer’s announcement of a more effective Covid anti-viral treatment leading to share price weakness for the British firm. Fellow drugmaker Horizon Therapeutics also suffered during the market turmoil, falling -13.5%, and we took the opportunity to buy more of this stock that we’re confident will have a prosperous new year ahead.
New Zealand and Australian Equities
In last month’s market update we commented on the increasing inflationary and interest rate environment in New Zealand. That theme continued to play out in November and had the unsurprising effect of being a dampener on the local equity market. The S&P/NZX50G index retreated -2.9%, which actually underestimated the poor underlying performance of the 50 constituents that make up the index. This is because the largest company in the index, Fisher and Paykel Healthcare, had a very strong month increasing 6.8%. If we subtracted this performance from the index, the decline would have been approximately -4.5%.
In that context, we are pleased to report that our strongest performing stock, Chorus, rose 5.0%. While there was no company specific news during the month, Chorus’ dividend growth profile over the next three years is expected to be strong. This mitigates, to a degree, the challenges that an increasing interest rate environment presents for dividend yield stocks. Later this month we expect to get one of the final pieces of the regulatory framework puzzle within which Chorus operates announced by the Commerce Commission.
Another company worth highlighting is My Food Bag, which gained 1.4% over the month after reporting a slightly better than expected first half result for fiscal year 2022. We are impressed with the resilience of the My Food Bag business model and operational capabilities in what has been a challenging environment. The company has successfully been operating their two major distribution centres during Auckland’s lockdown and has maintained excellent delivery rates. Finally, My Food Bag reiterated they are on track to achieve their prospectus estimated financial targets next year. The company is trading at an undemanding valuation multiple of earnings and carries a cash dividend yield of ~5.6%.
Turning to the detractors, the largest of which was our modestly sized investment in Westpac which declined -17.0%. Westpac reported its full year financial results early in the month, disappointing the market. The key areas of disappointment were due to Westpac reporting a lower net interest margin, impacting profitability. This can partly be explained by an increasingly competitive mortgage market, largely in Australia, where Westpac has had to price competitively against peers to maintain market share. The second key issue was driven by a larger than expected cost base. Earlier in the year Westpac had communicated a cost reduction programme to the market, which (if delivered) would strip some A$8bn of cost from operations. Given the higher reported costs this year, the market is now discounting the ability for Westpac to achieve their targets. Westpac is now trading close to book value, which has historically provided share price support and is paying a cash dividend yield close to 6%. We have taken the opportunity to add to our position on weakness during the month.
The second detractor of note was our holding in Stride Property, which declined -11.4%. While Stride reported a largely inline 1H22 result, and maintained dividend guidance for the full year, the results also incorporated a $120m equity capital raise. Stride has been transitioning to become a fund manager REIT, which means that the path to growth is via the management of underlying portfolios of real estate assets. Stride has most recently been creating an office portfolio comprised of approximately $930m of assets. In September, Stride attempted to list this portfolio on the NZX, which would have freed up capital to pursue new opportunities. Unfortunately, due to unfavourable market conditions at the time and ongoing Covid lockdowns, this attempt was unsuccessful. This meant that Stride’s balance sheet continued to hold the assets, thereby restricting its ability to grow in the near term. By raising $120m of fresh equity, Stride is taking the first step to getting the balance sheet back in line, affording it time to wait for improved conditions to list the office portfolio, and in turn get the funds management transition back on track. Generate was a strong supporter of Stride’s equity raise.