October 2024: Market Update.

It’s been quite a turbulent time in the market. I haven’t provided a market update in a while, so I’d like to share my observations and interests. Are we in a🐂 Bull or 🐻 Bear Market?

GOLD GOLD GOLD is the talk of the markets.

It is challenging for an investor to make sense of all the market fluctuations and still find compelling investment opportunities.

Apart from the traditional buy-and-hold and value investing strategies, there are plenty of momentum opportunities to take advantage of.

The AI craze seems to be slowing down, as evidenced by the performance of companies like the Magnificent Seven and other AI-focused companies. It appears that investors are now seeking “proof in the pudding” tangible results rather than just promises.

I won’t dwell too much on the usual headlines that flood the economic and financial news. US interest rates are starting to come down, the upcoming US elections pose challenges around potential regulatory changes, and the uncertainty surrounding the election outcome has everyone on edge.

In recent months, we’ve seen many markets moving in tandem, with various asset classes reaching new all-time highs.

📈 Bitcoin and Ethereum experienced a significant surge, although this momentum has started to taper off.

🪙 Meanwhile, gold and silver have reached record highs and continue to show potential for further growth. Is the Gold rise a sign of the times as investors move to defensive positions amid high inflation and global uncertainty? I don’t know.

🛢️ Oil prices have dropped by over 20% in the past few months due to a decrease in demand and increasing supply. This is a typical cycle where high demand leads to more investment in oil exploration and production, resulting in a surplus when demand slows down, causing oil prices to fall.

📊 Global markets seem quite expensive.

I find that the US, Australia, the United Kingdom, and most developed markets are overvalued. The continuous increase in the ASX 200 over the past 12 months amid a challenging market makes me cautious about investing at the top end.

I had some VAS shares in a retirement fund, purchased at an average price of around $85 per share. I sold them all for just over $100 per share. This decision was driven by the emergence of other compelling investment opportunities and the exceptional growth I experienced, especially for a slow-growing index fund. The 52-week low was $83.45, and the high was $103.78, presenting a significant low-risk momentum opportunity with a spread of over 20% in one of the safest index funds, akin to the S&P 500.

I don’t see much value at the top end (large-caps) in the global markets at their current levels. High-quality stocks have been a safe haven for capital, and their valuations seem reasonable, although not excessive. I tend to avoid fully priced stocks unless there is significant upside potential in the future. I am anticipating a market correction, but it’s uncertain when it will occur.

There is potential in many companies and numerous opportunities, but I find their entry prices unattractive. With 15 years of experience, I’ve learned that patience is crucial, and I prefer to wait for the right entry price for compelling ideas.

🫴 “You make your money when you buy”

The principle “You make your money when you buy” applies to most asset classes, including real estate, gold, and equities. I am not referring to traditional deep value investing, such as buying stocks with low P/E ratios, but rather to identifying value from my perspective.

Although I might pay high multiples for high-growth stocks, like high price-to-sales or EV/EBITDA, I evaluate their future potential and the company’s optionality, making them appear inexpensive in comparison to their future growth. Therefore, I always approach buying with a value mindset, regardless of the investment not whether it is cheap or expensive from a multiple perspective.

💹 The unwinding of the Yen Carry Trade

This created a dip in the Japanese markets (Nikkei) and whilst it did not affect many who were not exposed, the market reacted accordingly. What is the Yen Carry Trade?

The yen carry trade is a popular trading strategy that involves borrowing Japanese yen at low interest rates and investing in higher-yielding assets in other currencies or markets. This strategy relies on the difference between the low interest rates in Japan and the higher interest rates in other countries, allowing investors to generate profits from the interest rate spread.

Here’s a breakdown of the process:

Borrowing: Investors borrow Japanese yen at near-zero interest rates from Japanese banks or financial institutions.

Investment: The borrowed yen are used to invest in higher-yielding assets, such as:

• US tech stocks or government bonds
• Mexican peso-denominated assets
• Other emerging market currencies or assets

Conversion: At the end of the trade, the investor converts the dollars or pesos back into yen, and repays the loan.

Profit: The annualised returns from the trade typically range from 5% to 6%, which is the difference between the low-yielding yen and the higher-yielding assets.

The yen carry trade originated in Japan’s post-bubble era (1999) when the country’s central bank, the Bank of Japan, implemented extremely low interest rates to stimulate the economy. This created an attractive environment for investors to borrow yen at low rates and invest in higher-yielding assets abroad.

However, the yen carry trade is not without risks. When interest rates in Japan rise or the yen appreciates against other currencies, the trade becomes less profitable or even unprofitable. This can lead to a sudden unwinding of the trade, as seen in August 2024, when the Bank of Japan raised interest rates and the yen strengthened, causing significant losses for investors.

🔎 What opportunities am I seeing in this Market Update?

I see a lot of investment opportunities in the Indian equities market, mutual funds, and fixed deposits (7-8%), as well as in various small-cap stocks. The market has been experiencing significant growth and seems poised for more in the coming years.

The small-cap cycle has definitely begun. Despite the challenges presented by the COVID-19 pandemic, financial markets are now showing signs of recovery, with capital flowing down into micro-cap and small-cap stocks.

I’ve noticed many undervalued smaller companies on the ASX, presenting potential for significant upside. There are plenty of quality smaller players with single-digit multiples that offer promising opportunities.

I anticipate a bull run in the bottom end of the markets, particularly for small-cap investors like myself, as M&A activity starts to pick up. Private equity from the US, UK, and Australia is starting to show interest in small-cap public markets, which is creating momentum.

As capital starts to flow into different asset classes, new opportunities are emerging. Even in my ASX small-cap fund, there has been significant growth in the underlying assets. Many of the holdings and positions are currently performing well, with some showing potential for significant growth.

🎢 Investment Themes I am observing…

I am particularly interested in a few investment themes at the moment, and I am positioning myself to take advantage of them. These include infrastructure in emerging markets, especially in India, as well as services related to the aging population in developed markets, such as healthcare and aged care for seniors.

I am also keeping an eye on Australia’s real estate and construction/infrastructure, expecting a turnaround in the current cycle. There is a huge shortage of housing that needs to be filled, so positioning around this theme is key for the coming years.

Additionally, I see potential in data centers, both in terms of business operations and real estate investment trusts (REITs) that focus on hard assets.

To capitalise on these themes, I will be looking at various industries, sectors, and specific companies that stand to benefit from this growth. It’s important for me to identify companies that are well-positioned to capitalize on these trends, as the profits within the industry may not necessarily flow to the larger companies. This approach can help discover greater investment opportunities with lower risk, as we previously discussed in supply chain investing.

🔑 The Key Takeaway from this Market Update.

I am optimistic about some areas and pessimistic about others. I am not concerned about interest rates and US elections because I am not heavily affected by them, nor do I particularly care. The Western world is greatly impacted by federal cuts, elections, and wars, but the asset classes I invest in are not as influenced by these events.

Therefore, I focus on my own goals and seek out opportunities, while tuning out a lot of the market noise that affects other investors. For instance, many US or Australian investors base their decisions on Western news, but if you have a flexible investment approach, opportunities can be found regardless of market conditions.

I aim to be an all-weather investor, not just participating in bull markets and sitting on the sidelines during bear markets. To achieve this, I operate similarly to a hedge fund, always looking for ways to hedge and profit in both up and down markets. When the S&P 500 appears overpriced, investors become cautious. However, if you look at a market like Argentina, it has outperformed the S&P 500 significantly and many other markets.

I’m not suggesting moving all investments to Argentina, but rather pointing out that expensive or stagnant markets in one place don’t represent the entire world. I believe that everything moves in cycles, and I think the emerging markets cycle is returning, which will likely lead to another strong bull market for a decade.

As a result, I am heavily focused on emerging markets, which is why I invest in India and travel across Southeast Asia and other emerging markets. Financial markets involve constant changes and adjustments, and I aim to navigate these shifts effectively.

🐺 The hunt for Alpha…

While there may be overpricing in large-caps and well-known names, as well as in index funds, there are many opportunities available if you are willing to explore not only lower market capitalisation stocks but also international markets in search of true Alpha. If you tend to invest primarily in your home market and struggle to find opportunities beyond the largest companies, consider shifting your focus to mid-caps and small-caps.

Smart investors diversify their investments and “rotate” their capital. Holding a mix of long positions in high-conviction ideas and possibly some shorter-term momentum positions (not day trading) can help enhance the portfolio during sideways markets.

While I don’t engage in day or swing trading, I do participate in momentum trading to some extent. I may identify an opportunity where I believe a company is mispriced over the short term, and I expect a correction within 6-12 months. I come across many such opportunities and allocate a portion of my portfolio specifically for this purpose.

Some might question how I can promote long-term investing and then discuss trading. Just like you, my goal is to make money. If you are seeking to generate alpha you need to be open to actively managing your investments.

😁 If you simply want to dollar-cost average into an ETF, then you might find it more interesting to engage in discussions comparing VOO and VTI on a Reddit chat for the remainder of your investing life.

PS. I am a big fan of Vanguard.