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After the storm: how to find top stocks amid the ruins

Investors are caught in a topsy-turvy world, says Jonathan Compton. He surveys the scene, assesses the outlook and suggests where – and how – you should look for healthy returns.

The world has gone mad. Unless restrictions are lifted immediately the global airline industry is facing bankruptcy within months at most. So too are many major companies in other sectors. The global cruise industry is now notorious for imprisoning its passengers on “plague ships”. Cinema chains worldwide have been forced to close. Hotel chains are suffering in a similar fashion as leisure travel collapses. 

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These bankruptcies may be just the first dominoes in a long row. Keep an eye out for construction groups, carmakers and nail bars after that. It is not out of sympathy for the three million-plus employees already furloughed that the UK and other governments have rapidly shaken every old and new money tree they could find, but out of necessity. If these businesses were to close for good, their bad debts would sink other businesses and every financial institution. 

Through the looking glass

Unprecedented state and central-bank interference means we now have false prices across all equity markets, where a mere month ago price manipulation could result in an unlimited fine. Even more topsy-turvy, we also have non-disclosure of key facts introduced by the regulators, forbidding companies from reporting preliminary results “to prevent investors acting on out-of-date information”. What more information the shareholders of struggling leisure industry operators require is hard to fathom. Concurrently the Bank of England advised – ie, ordered – banks not to pay dividends; the Treasury has leaned heavily on other companies to do the same. 

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Events have moved so rapidly that one debate likely to terrify investors has hardly commenced: whether to close stockmarkets until the worst of the pandemic has passed. There are both good reasons for, and serious problems with, so doing. I would currently give it a one-in-five chance, higher if further large falls ensue. Even Sleeping Beauty would have noticed that the last quarter has been hideous. Using FTSE Global Equity Index Series data to the end of March, the falls have been stupendous. In local currency terms and on a total return basis (ie, capital plus dividends), a UK investor has lost 24%; the figure for France and Germany is about the same. It is little solace that leading emerging markets were worse, down 25%, or that America fell by just 20%.

Traumatised investors miss the bottom

Small wonder then that legions of investors have been selling in droves. More will follow on each bounce, many swearing never again to invest in stockmarkets. And as in the crashes of 2008, 2001 and earlier, they will spend many years waiting for the final fall to reinvest even as markets recover. The adage “panic now before the rush” has again proved correct, but I think the time for indiscriminate dumping has passed. 

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I can empathise with the fleeing masses. Parts of my portfolios have been shredded. Many positions have suffered through well-documented psychological mistakes investors make: loss-aversion, denial, unjustified optimism and rabbit-in-the-headlights syndrome. The positive decisions of last year – no energy, natural resources or retail plays; little emerging-market or consumer exposure – have softened the blow even as my brain remained in the freezer. Why did I keep holding Saga, with its new investment in cruise ships, or Costain with its wafer-thin margins and debt?

Where to start looking now

Lesson hopefully learned, again. So where next? There are some flickering signs of interesting opportunities, especially in UK and European mid-caps, companies with a value between $2bn and $10bn. Recent legal changes such as the EU’s regulation of investment services (Mifid II) have inadvertently weakened research coverage of these companies, making it easier for sharp-eyed investors willing to do some digging to find some promising prospects. And as it seems probable that governments and businesses will want more goods and services to be made locally, having suffered the risks inherent in long supply chains and “just-in-time” practices (low stocks, margins and cash buffers), medium-sized companies in or near the UK should benefit the most. 

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Jonathan Compton worked in investment banking and asset management for 35 years and now writes and lectures on financial markets as well as managing some pubs and farms. (jlcompton@outlook.com)

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