Why Steve Johnson would rather hold cash than defensives right now

"We're finding really attractive risk-reward in a certain type of stock that we don't necessarily want more exposure to across our whole portfolio and not finding enough risk-reward at the more liquid, larger end of the market," Johnson says. 

In this wire, Johnson divulges why he is holding so much cash today, shares why he's avoiding expensive defensives, and highlights why the worst could be over for small-cap industrials. 

Plus, with nearly 75% of the portfolio invested in small and micro caps, he names some of the stocks he's backing right now. 

Note: This interview took place on Thursday 14 April 2023. On Friday 15 April, I accidentally called Steve and asked him which herbs I needed to buy to make bolognese before he could get a word in. We've all been there, right? Right?!? Sorry, Steve. 

The ASX isn't particularly cheap

Earlier this month, the Reserve Bank of Australia did something that investors and mortgage holders had long prayed for - it paused its hiking cycle. 

At the time, RBA Governor Philip Lowe said the decision would allow the central bank to assess the "state of the economy and the outlook, in an environment of considerable uncertainty."

Markets responded accordingly, with the All Ordinaries lifting around 2% since then. But Johnson believes investors could be celebrating prematurely. 

"I think it's still a really fine line in terms of whether the RBA needs to raise rates further or not. And I think the optimism around rate cuts into next year is probably overdone," Johnson says. 

"There is a path here that is just 3.5% to 4% interest rates for the next five to 10 years, rather than we're up and then we're down, which is how the market is forecasting rate cuts." 

This would give central banks the capacity to stimulate the economy (and cut) in difficult economic times, and also would suggest fairly stable prices, he adds. 

Today, given rates are currently at 3.6% and where the ASX is trading, equities don't look particularly cheap, Johnson says. 

"It's not like we're sitting here saying we're priced for substantially higher rate rises. The All Ords is near record highs. It's not even down substantially," he says. 

One area that has fallen substantially, though, is small-cap industrials (non-miners). If we're being honest, it's been a bloodbath.

"We are getting close to the point, even if there are a couple more rate rises, where the worst has to be behind us," Johnson says.

"Although, I think you probably need a recession for that particular sector to start working again because nobody wants to buy it until it happens." 

You won't get burnt owning expensive defensives, but you're unlikely to see above-market returns

Since the beginning of the year, defensive stocks have become the market du jour, with stocks like Cochlear (ASX: COH), ResMed (ASX: RMD), Woolworths (ASX: WOW), Coles (ASX: COL) and Telstra (ASX: TLS) all appreciating significantly.