ASX mid caps: Opportunities amid the noise

Investing in companies that will be beneficiaries of an interest rate-easing cycle should provide rewards, says mid-caps portfolio manager BRENTON SAUNDERS

• Real estate trusts, long duration could benefit
• Discretionary retail and commodities “tough to call”
• Find out about Pendal MidCap Fund

FINDING early cycle opportunities and bond-sensitive stocks should pay dividends for investors.

That’s according to Brenton Saunders, who manages the Pendal MidCap Fund.

“Investing in companies that will be beneficiaries of an ongoing interest rate easing cycle – real estate investment trusts being an obvious one – along with long duration, high multiple sectors, especially the growth stocks, should provide rewards,” Saunders says.

But that doesn’t mean investors should buy into all interest rate-sensitive sectors.

“Discretionary retail is still a tough one to call – some parts of it are doing really well and others are quite challenged,” he explains, adding that it depends on the landing scenario and whether we get a soft or hard landing.

“Some of the deeper cyclicals, whether they be industrials or resources, will probably take longer to improve in a convincing way,” Saunders continues.

“Commodities will depend on the efficacy of ongoing Chinese stimulus which, to date, has been unconvincing.”

The main macroeconomic driver of equity markets is the turning economic – and interest rate – cycle.

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Saunders expects two or three rate cuts in the US, adding that so far, Australia is an exception to the rate-cutting trend and likely to remain the case until 2025.

Turns in economic cycles introduces a level of uncertainty in markets, and Saunders says the most recent earnings season demonstrates nervousness about the economic outlook.

“The market disproportionately rewarded companies with either earnings surprises and/or higher guidance, and disproportionately punished companies that had an issue,” he says.

“The re-rating and de-rating during reporting seasons is still about two-and-a-half times what we were seeing pre-COVID.”

What this means is stocks that are doing well are doing even better, and those on the nose remain that way.

“Turn-around stories for earnings, especially among cyclical stocks, remain difficult. Some stocks that investors have been buying in the expectation of an earnings recovery continue to battle,” Saunders says.

Among sectors, banking stocks continue to rally – in some cases ahead of what fundamental analysis suggests.

“During the earnings season, in aggregate there was some margin compression among industrials, though there were some exceptions to that. What it shows is the ability to pass price on is slowly starting to get undermined,” he continues.

“The growth sectors [such as technology] continue to do well both in terms of the numbers they are reporting and their price performance,” Saunders explains.

“The sector that continues to do really badly, based on the global cyclical theme, is resources. Most parts of resources are on the nose, with the exception of gold.

“Iron ore prices fell below $US90 a tonne, lithium is incredibly cheap – highlighting how a lot of future facing commodities are challenged. Oil is normally a good barometer of global economic activity and aggregate demand, and oil prices have been falling.”