Money-making share strategies for 2011

Share investors face excellent opportunities to make money in 2011, with wide expectations for the market to make solid gains after 12 months in the doldrums.

And continuing market volatility will inevitably present exceptional openings for cashed-up investors to buy in the dips.

The poor performance of the Australian market in 2010 may seem somewhat ironic given the strong recovery of our economy and the continuing global economic recovery. But weak markets are typical after a powerful rally from a bear market to the degree of the 39% market bounce-back of 2009.

The wall of worries which has dogged global markets – European sovereign debt, the sluggish US economy and fears of excessive tightening of China’s monetary policy – will remain prominent in 2011.

Yet fears of a double-dip recession in the US appear to be receding, and action by the European Central Bank along with the economic powerhouse of Germany are helping to currently ease concerns about European debt – but Europe’s problems have certainly not passed.

Significantly, 2011 will begin with the solid floor of having these concerns reflected in share prices to the extent that shares are cheap.

At the time of writing, the S&P/ASX200 stood at 4731 – up just 135 points over 12 months. Fortunately, some leading equity strategies and analysts have high expectations for 2011:

• Prasad Patkar, portfolio manager for Platypus Asset Management, expects the market to return 15-20% (including about 4% dividends).
• Ross Bird, head equity strategist for researcher Morningstar, forecasts that the market will increase by 10-15% with dividends of over 4% “as an additional kicker”.
• David Cassidy, chief equity strategist for UBS, says a rise in the S&P/ASX200 to 5500 is “achievable”.
• Tim Rocks, senior equity strategist for Merrill Lynch, forecasts a rise in the S&P/ASX200 to 5500 as does Shane Oliver, head of investment strategy for AMP Capital Investors. Patkar has similar expectations for the S&P/ASX300 but emphasises the difficulties with the accuracy of such forecasts.

Here are eight money-making share strategies for 2011:

1. Understand the positives

Prasad Patkar describes share prices as cheap, with investors’ appetite for risk remaining subdued despite improving corporate earnings.

Patkar expects corporate earnings and world economies to keep improving against the background of low global share prices. He believes that investors will increase their appetite for risk as the GFC moves further into the past and begin pricing in corporate earnings’ growth into share prices.

Shares are trading on an average price-earnings multiple of about 12.5 times – down from its long-time average of 14.5 times.

Ross Bird doesn’t forecast a “raging bull market” in 2011 but says the platform is there for strong returns. And he points to the good shape of corporate balance sheets, the strength of the Australian economy, high disposable income, and inflation which is under control.

2. Be ready to buy in market dips

Bird and Patkar says buyers should be ready to snatch the inevitable opportunities that will arise throughout 2011.

“Markets pass through risk-on and risk-off phases [as investors’ levels of worry change], providing some very good opportunities for those with some dry powder,” Patkar says.

Bird says that as shown with the high current household savings ratio, there is plenty of money sitting on the sidelines. “It is just a case of being disciplined to buy quality stocks on your radar. I see that scenario continuing into 2011 and as far as we can look out.” (Morningstar’s equity research covers about 180 stocks of the S&P/ASX200.)

3. Look hard at resource stocks

Patkar expects a “blow-off” in commodity prices, which had been postponed by the GFC, may well occur in 2011. This would mean that commodity prices could increase rapidly, perhaps to the extent of “just going ballistic”.

“If you really want to participate in the commodities ‘blow-off’ or mania, I think you will get a bigger bang for your dollar with small, single-commodity copper or coal companies that have good quality assets [than with the large diversified resource stock of principally BHP Billiton and Rio Tinto].

Investors could reap high rewards from investing in potential takeoff targets. And Patkar says that such small resource companies as OZ Minerals and Independence Group will “more likely have been acquired by some of the majors” over the next two years. (He explains that Platypus has holdings in these companies.)

Patkar says a “merger and acquisition tsunami” has started to hit the market, aimed at the small commodity stocks.

Particularly given the fact that Morningstar concentrates its research on the top 200 stocks, Bird favours BHP and Rio. “You can’t go past these two at the moment [particularly given Chinese demand].”

4. Try to take advantage of energy demand

Bird immediately names oil and gas producer Woodside.

“We think Woodside is going to have a really good 2011 as its Pluto [LNG] development gets closer to fruition.” And he points to the strong Asian demand for energy.

5. Consider health-care stocks

Patkar says health-care stocks have had to deal with foreign currency worries in 2010 because they earn much of their revenue in US dollars, but 2011 looks much more promising. “We favour CSL, Cochlear and ResMed,” he says. “All three have incredibly strong franchises and all are gaining market share for different reasons.”

Bird also favours the health-care sector but says the stocks have performed well over the past six months and are looking a little fully priced. “We would look for a bit of a pull-back before putting money into that area.”

6. Think about selected retailers

Patkar believes that certain discretionary retailers with good sustainable models and store rollout programs are worth thinking about for 2011. This is despite the reluctance of consumers to spend on discretionary goods.

“Consumers can’t remain frugal forever,” says Patkar, emphasising that there are opportunities in some discretionary retail stocks. “Employment is strong, house prices are firm and wages have grown at a healthy rate,” he adds.

Patkar says Platypus Asset Management likes JB Hi-Fi. “Its low-cost, service-orientated model is unique and sustainable. Its store rollout strategy is only about halfway done so JB Hi-Fi has another four or five years before maturing and saturating the market.”

JB Hi-Fi also has the advantage of its stores being typically located in shopping malls, unlike Harvey Norman which is facing the difficulties of standalone shops, he adds.

As well among the discretionary retailers, Patkar points to David Jones with it’s rapidly expansion of floor space in new shopping centres after its floor space had stagnated for a long time.

Both Bird and Patkar, not surprisingly, name Coles owner Wesfarmers and Woolworths as desirable non-discretionary retail stocks. “Wesfarmers has the edge at the moment,” says Patkar, “because it is turning around Coles much more successfully than its management expected three or four years ago.”

And Bird adds: “We feel it is important to have exposure to this sector. Woolworths is a very well managed core stock to hold as a long-term investment.” He notes that Woolworths is facing tougher competition from Wesfarmers.

7. Look for opportunities to add more blue chips paying strong sustainable dividends

As Patkar says, these should always have a place in long-term portfolios.

Among his favoured stocks in this category, Patkar names Wesfarmers, the banks – “CBA definitely” – and Woolworths.

“What I wouldn’t put into this category are the likes of Telstra. I think Telstra’s 28 cent dividend is unsustainable,” Patkar says. “As soon as Telstra confesses to the market and to itself that this dividend is artificially held up, the better.”

“We look at Telstra as a cash box. You would have to be confident about how management will use that cash before you buy that stock.”

8. Know which stocks to stay away from

As Bird says, there are always plenty of these. For instance, Morningstar has a sell recommendation on Aristocrat Leisure. “It is losing market share and has a very uncertain future in terms of demand for gaming machines.”

Patkar says stocks to stay away from include those with problematic underlying businesses and an eroded competitive position. And he points to Aristocrat Leisure and Brambles.

“Aristocrat is getting chewed by its competitors and is facing a tough environment,” he explains.

“And you have to think there are smarter products than a dump wooden pallet. Brambles’ competitors are introducing recyclable pallets, and pallets with [computer] chips”.