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6 top stocks for your Christmas stocking

Anthony Fensom  |  09 Dec 2016Text size  Decrease  Increase  |  

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While there are a few quality stocks you may want old Saint Nick to add to his annual delivery, a reasonable allocation of cash in 2017 will be a wise move.

 

The Christmas bells are ringing again, and for Australian investors they have rung up a volatile 2016. After a year of shocks, from Brexit to President Trump and more, which stocks should be in Santa's sleigh?

Morningstar's head of equities research, Peter Warnes, suggests investors should choose carefully, with a potentially difficult Year of the Rooster ahead.

"The Trump presidency won't be as easy as most are anticipating--he may want to spend US$1 trillion on infrastructure over 10 years. Many believe it will be much less. His tax cuts will have to be funded to get through his own party, let alone Congress," Warnes says.

"So, he might want to do a lot of things, but there will be plenty of people around him that will say, 'No, you can't do it'."

Warnes also points to the prospect of higher US interest rates, with the US Federal Reserve likely to raise rates after this month's meeting (13-14 December) and potentially another three to four, 25-basis-point hikes in 2017.

The result will be a stronger US dollar, causing a decline in the Australian currency that would benefit exporters and corporations with US-dollar earnings, but not importers.

Warnes sees China as "muddling through" with around 6 per cent GDP growth in 2017, but the biggest risk factor is likely to be the Eurozone, with a string of elections set for the Netherlands, France and Germany that could further shock the established order after the recent referendum result in Italy.

Meanwhile, bond yields should rise further, but not the 200 to 300 points eyed by some commentators, he suggests.

"It took 35 years for bond yields to come down from around 18 per cent to zero--over the last five to six years the trend towards zero has been quite gradual, and I think they'll go slightly higher but not significantly higher under Trump," he says.

Stock picks

Amid this backdrop, Warnes suggests investors gain exposure to healthcare, with Morningstar favouring established operators Ramsay Health Care (ASX: RHC) and blood products provider CSL Limited (ASX: CSL). Both narrow-moat rated stocks were included among Morningstar's Best Stock Ideas for November 2016.

CSL is expected to see positive earnings growth from the integration of its Novartis business and the launch of new products. Ramsay is considered undervalued for its strong market position, having suffered a sell-off after a cautious trading update by rival Healthscope (ASX: HSO).

Warnes also points to QBE Insurance Group (ASX: QBE), which he said would benefit from the tailwind of rising bond yields and its US exposure, which accounts for around 40 per cent of its business.

Similarly, he said so-called "bond proxies" such as Sydney Airport (ASX: SYD) and Transurban (ASX: TCL) would still generate rising distributions, with the former benefiting from the tourism boom.

"Cash flows will continue to grow strongly--these are uncrowded trades and will present value if sold off," Warnes says.

He also suggests pet-care provider Greencross (ASX: GXL), which should benefit from an ageing population who "spends more money on pets than they did on the kids".

For banks, Warnes indicates a "neutral outlook" with concerns about increasing capital requirements dissipating, "but you're going to see a situation where payout ratios are going down, and dividends will probably flat line".

Meanwhile, investors should tread carefully among resource stocks, which Warnes describes as having "overstretched" valuations.

"Cash flows will benefit meaningfully from the strong recovery in commodity prices, but these prices are unsustainable at current levels. The resources space is a very crowded trade at present and could be quite volatile in 2017," he says.

The Reserve Bank of Australia kept official interest rates steady at its latest policy meeting, and following disappointing September GDP data, any increase is now probably off the cards in 2017, with an outside possibility of a cut, Warnes says.

For Australian stocks, Warnes expects the benchmark S&P/ASX 200 to trade in a range between 5,200 and 5,900 next year, compared to its current level of around 5,500.

"It is likely to be a volatile year with all eyes on how the early days of Trump presidency plays out. Europe will also have its challenges, both economically and politically," Warnes says.

He concludes: "I don't want a lot in the stocking because I think 2017 will be a bit difficult--I think the market will drift higher but will be lower in 2018 and 2019. I think we are returning to our normal decade-long cycle where the market finds a bottom in the early years, rising into the sixes and sevens and then coming off again."

"I would also have a reasonable allocation of cash in my stocking. While you won't get much for your cash, at least your money is safe and it gives you optionality as well."

More from Morningstar

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Anthony Fensom is a Morningstar contributor. This is a financial news article to be used for non-commercial purposes and is not intended to provide financial advice of any kind. Opinions expressed herein are subject to change without notice and may differ or be contrary to the opinions or recommendations of Morningstar as a result of using different assumptions and criteria. The author does have an interest in the securities disclosed in this report.

© 2016 Morningstar, Inc. All rights reserved. Neither Morningstar, its affiliates, nor the content providers guarantee the data or content contained herein to be accurate, complete or timely nor will they have any liability for its use or distribution. This information is to be used for personal, non-commercial purposes only. No reproduction is permitted without the prior written consent of Morningstar. Any general advice or 'class service' have been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), or its Authorised Representatives, and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. Please refer to our Financial Services Guide (FSG) for more information at www.morningstar.com.au/s/fsg.pdf. Our publications, ratings and products should be viewed as an additional investment resource, not as your sole source of information. Past performance does not necessarily indicate a financial product's future performance. To obtain advice tailored to your situation, contact a licensed financial adviser. Some material is copyright and published under licence from ASX Operations Pty Ltd ACN 004 523 782 ("ASXO"). The article is current as at date of publication.