Defensive stocks overpriced

Investors' search for yield in a low-interest rate environment is pushing up prices of some equities and sparking warnings.

Monday, July 13th 2015, 6:00AM

by Susan Edmunds

Shane Solly, of Harbour Asset Management, said the yield compression in the market was making it difficult for some investors to meet financial commitments.

But he said low interest rates were likely here to stay for some time.

That is leaving investors with limited options unless they want to take on more risk.

New bond issues have lower rates and rankings than those that are expiring. Less than 20% of retail issuance is AA rated.

The lack of appealing bond offers is driving some investors to look to equities to take the income-producing role in portfolios.

But Solly said even if investors were looking for new strategies they needed to stick with traditional investment themes and rules and ensure they remained diversified in their investments.

He said the drive for yield had led to low-risk defensive stocks, such as electricity generators and consumer non-discretionaries, being overbought. "The quest for yield has driven New Zealand defensive stocks to levels never seen before."

"Non-defensives now offer higher income yield and higher income growth than non-defensives."

Globally, investors had moved up the risk curve, he said.

But Solly said advisers should ensure their clients remained suitably cautious and not take too much of a risk trade off in return for income. "Investors should target sensible yield. As they go up the yield curve the risk of default is higher."

He said the "sweet spot" was 4% to 8% yield.

Morningstar analyst Kathryn Young also issued a warning: "A lot of investors have tried to use that strategy to add more income and the higher-income stocks have been bid up over the last few years so you need to have more caution, there is more price risk in those stocks.”

Tags: Harbour Asset Management Morningstar