By Raymond Chan

The ASX 200 has rallied +12% since the February low. We think it makes sense to re-visit the market fundamentals. 

While the rally is welcome, we note that the market is going up without meaningful earning upgrades, ie it's purely based on Price-Earnings ratio (PE) expansion, which in my opinion, is not sustainable. 

Yes, we do have (1) the RBA cutting rates, (2) Chinese stimulus, (3) a dovish US Fed Reserve and (4) a likely Coalition victory in July (Coalition tipped at 1.34 versus Labour at 3.20, according to Sportsbet).

Obviously, the fund managers are still adjusting their portfolios under a “lower for longer” interest rate environment.

However, we question whether it’s justified to have most sectors trading well above their long term PE. Further, over next few weeks, there will be a number of key events that could introduce market volatility;

  • OPEC meeting - June 2
  • FOMC Meeting - June 14-15
  • Brexit Vote - June 23 
  • Federal Election - July 2 

Last but not least, the month of May typically marks the beginning of “confession season” as companies review earnings expectations into 30 June. Companies that have already disappointed against market expectations include: ANZ Banking Group (ANZ), AMP Limited (AMP), Cover-More Group (CVO), Surfstitch Group (SRF), SMS Management & Technology (SMX) and Woolworths (WOW). 

Our research team also lists Ansell, Simonds Group, SMS Management, ALS Limited, Flight Centre, Select Harvest, Wellard, Elders, ERM Power, Capitol Health and Kathmandu as companies with downside risks to guidance/consensus.  

We think the ASX 200 is due for a breather and feel investors need to be more selective on stock opportunities.

Next DC Limited (NXT)

Speaking of a stock opportunity, we still favour our data centre investment theme and NXT.

We first discussed NXT as a BUY on the Switzer program on March 16. Since then, the NXT stock price has rallied +30% from $2.40 to yesterday's $3.10 and has easily outperformed the ASX 200 during the same period.

NXT is a Data-centre-as-a-Service (DcaaS) provider, offering a range of services to corporate, government and IT services companies with customers and partners like Amazon Web Services, Telstra and Microsoft. After 5 long years of solid investments, the company has experienced profitability from this financial year. We expect their profits to accelerate in the coming financial year. 

Yes, it's not as cheap as when we first nominated it, but I see two positive catalysts that could re-rate the stock: 

  1. Likely ASX 200 index inclusion in June and;
  2. The announcement of secondary data centres in Brisbane and Melbourne (Brisbane was announced yesterday).
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