Yahoo Finance Now is the time for investors to accept short-term pain for long-term gain
No one knows when the current economic turmoil will end. Things could worsen or improve over the short run. Over the long term, though, the economy’s track record of recovery strongly suggests that today’s doom-mongers will ultimately be proved wrong.
Investors who buy shares today, however, must accept that they could experience acute short-term pain in return for the chance of big long-term gains. In practice, this means the value of their recent purchases could fall sharply before they rebound to generate significant profits.
Since this column is an ardent believer in long-term investing, it is unconcerned about the threat of short-term paper losses. So it views this year’s stock market decline as an opportunity to buy high-quality firms at discounted prices.
For instance, shares in the medium-sized industrial stock Renishaw have fallen by 21pc since the start of the year as investors have priced in a more challenging trading outlook for the business. The company specialises in measuring systems that provide its customers with precise data that enable them to improve their products.
It operates in two main areas: manufacturing technologies, which include products such as encoders that give feedback on the linear or rotary positions of machines, and analytical instrumentals and medical devices, which include a drug delivery system that helps treat neurological conditions.
The company’s latest trading update highlighted that sentiment among its customers had become more cautious over recent months. This caused weaker order intake, which prompted the company to carefully manage costs and focus on productivity. As a result, it reported a 4pc decline in quarterly adjusted profits before tax relative to the same period of the previous year.
Undoubtedly, a weaker economic outlook is likely to weigh on the company’s near-term financial and share price performance. But in Questor’s view a clear and sustainable competitive advantage makes it well placed to capitalise on a long-term recovery.
It currently holds nearly 1,800 patents and generated a 16pc return on equity in the most recent financial year. It has net cash on the balance sheet and net finance costs were covered more than 71 times by operating profits in its latest financial year.
This bodes well for its capacity to ride out a period of rapid interest rate rises and emerge from today’s economic uncertainty in a strong position.
Its solid financial standing gives it the scope to invest heavily in research and development so that it can release new products, as well as improved variants of existing products, over the coming years.
Its financial performance should also benefit from the seemingly insatiable demand for greater efficiency in a world of scarce resources. In addition, rising labour costs are likely to quicken demand for its products as automation becomes more prevalent across a wider range of settings.
Readers with long memories will recall Questor's advice that Renishaw be avoided in February 2018. Since then its shares have fallen by 18pc, against a 5pc rise for the FTSE 100.
Additionally, its executive chairman and non-executive deputy chairman put their 53pc combined stake in the company up for sale last year. Ultimately, no suitable buyer could be found after the board decided that the proposals it had received were not in the best interests of all stakeholders.
Clearly, the risk from a renewed desire among senior management to sell their stakes remains. And at a price-to-earnings ratio of 20.4, the stock continues to trade at a premium valuation vis-à-vis other medium-sized businesses.
However, in Questor’s view Renishaw offers clear long-term capital growth potential. Its solid financial position makes it very likely to survive further economic challenges, while its competitive advantage will allow it to benefit fully from the almost inevitable economic recovery.
Investors who buy the stock are unlikely to experience a smooth ride. But any pain is likely to be short-lived and ultimately replaced by long-term gains as the global economic outlook turns positive.
Questor says: risky buy
Ticker: RSW
Share price at close: £37.82
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