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Technological change, leading to the disruption of established industries, is sometimes cited as a reason to steer clear of value investing. We argue that large parts of the equity market – over half of ASX100 market cap by our reckoning - is in industries that are hard to disrupt. The key debates centre on Financials: even here the barriers to disruptive new entrants are often under-estimated. Moreover, investing in ‘disruption’ carries its own risks – new technologies have high failure rates, the economics of the industry are unsettled and business models and managements are untested. Even the eventual winners carry significant risk of overvaluation.

The rise in bond yields from 2020 lows prompted a debate: is the market is jumping at inflation shadows, or is this an inflection point? In fact the move was driven by the risk premium in bonds, which was negative in 2019 and 2020. This sentiment was mirrored in equity markets: ultra-low rates would support high-multiple growth stocks while feeble growth and inflation weighed on value exposures. The divergence between the two groups exceeded tech bubble levels. The bond sell-off did prompt a strong rebound in the value end of the market, but by our reckoning it has yet to match the move in yields.

Any sensible valuation should be grounded in the present value of free cash flows that a company will produce in the future. As market valuations soar for the ASX “WAAAX” stocks (Wisetech, AfterpayTouch, Appen, Altium, and Xero), it follows that the expectation of free cash flows are equally high. There’s no doubt that these are innovative, high growth businesses. But when share prices accelerate beyond fundamentals, this in fact increases the risk profile, as the growth requirement is pushed to extreme levels, rendering the company less likely to achieve outcomes in line with expectations. Ultimately, this leads us to the fundamental question: what’s already in the price?

Three tall telecommunication towers with antennas on blue sky. View from the bottom.

5G mobile network technology will bring real benefits for users, but for shareholders it represents more capital investment in an industry which has struggled to achieve adequate returns.
Telcos cannot assume that new ‘use cases’ will deliver a payback on 5G investment: we see no killer app that can reliably deliver a meaningful revenue boost.
5G needs to be accompanied by more rational pricing of the core mobile product if the networks are to make a return on the investment it requires.