Unprofitable firms to be treated harshly in rising rate environment

Companies which are yet to reach profitability could find investors becoming more impatient of results once interest rates start to rise.

Speaking to Money Management, Max Cappetta, chief executive and senior portfolio manager at Redpoint Investment Management, said investors were currently willing to wait for results. However, once rates started to rise, they could likely be more demanding.

Particularly in the IT space, many companies were still unprofitable and giving long-term guidance of being profitable in three to five years.

“Some IT stocks which are priced for massive earnings growth, will they deliver? They won’t have low interest rates anymore to help them maintain their high valuation so we will see how investors react to that news,” Cappetta said.

“If they don’t deliver results in the timeframe that investors expect then they will be harshly dealt with. Until now, investors have been giving them a runway to get to profitability but they will shorten that in a rising rate environment and will want to see what companies are achieving sooner.

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“Going forward, I would avoid those stocks which have high valuations and where the profitability is still several years away.”

However, financials and commodities would be likely to benefit in a rising rate environment.

Regarding commodities, Cappetta specified BHP, which sat in the top 10 holdings of the Redpoint Australian Equity Income fund, and said it would benefit from the firm’s decision to sell its petroleum assets to Woodside.

“BHP has a world-class copper business and a petroleum business so if they can offload that fossil fuel business then that would allow them to focus on the copper one which will be most in demand,” he said.

“The decision to get rid of the dual listing and only list on the ASX [Australian Securities Exchange] will also simplify the business and reduce costs, it will likely be one of the top three largest business on the index.”