With the sharemarket expected to continue rising and IPOs coming, Milford Asset Management's Brian Gaynor warns investors to watch out for mutton dressed as lamb

By Gareth Vaughan

Anyone worried about the local sharemarket overheating after its 24% 2012 rise made it one of the world's best annual performers ought to keep an eye on initial public offerings (IPOs), says Milford Asset Management executive director Brain Gaynor.

Gaynor told interest.co.nz in a Double Shot interview that he doesn't expect the NZX50 Gross Index to repeat last year's 24.2% surge, and nor would he want it too.

"I wouldn't like to see the sharemarket having another 25% to 30% year because that would mean it would be getting overheated and therefore the following year you might have some negative consequences of that," Gaynor said.

.As of November 14, 2012 CNN Money had the NZX as the eighth best performing global sharemarket year-to-date with a rise of 28%. Leading the way at that point was Venezuela with a 219% rise, followed by Egypt, Turkey, Pakistan, Nigeria, Kenya and Thailand. And MSCI data, in US dollar terms, shows the NZX was among the world's best performers in calendar year 2012.

Asked at what point sharemarket gains might be getting a bit too good Gaynor said the market was a long way from overheating, but suggested punters keep an eye on IPOs.

"In the early 1980s we had one year when it (the sharemarket) was up 97% and another year 110%. So we're no where near that. I think the biggest sign is IPOs and I think they're going to be a big issue. In 1987 we had 65 IPOs. We had two last year, we've only had about 10 over the last four years in New Zealand. Now, when you get a lot of IPOs and a lot of them are very questionable, you might say they're mutton dressed up as lamb, that's when we get to the danger point," said Gaynor.

"We're a long way from that at the moment. I know people will say I'm a fund manager I'd naturally be that way, but having been in the market for nearly 40 years in New Zealand, having watched it, we are absolutely nowhere near what we were  in the 1980s. We could get there, however. The thing to watch will be the IPOs. The IPO market tends to be a very good reflection on how overheated a market becomes."

What to look out for to avoid 'rubbish' IPOs

Gaynor predicts between 10 and 15 IPOs during 2013.

"That's not enough to be overheated. But the quality is going to be quite important. If we start getting a lot of rubbish in there that's a concern."

Asked what investors should watch for in order to avoid rubbish IPOs Gaynor said check to see any companies coming to market actually have substantial businesses.

"If it's a business they actually know about. Because what happened in the 1980s there was a huge amount of investment companies and property companies floated but these companies actually had no assets. They were just raising cash and once they got the cash they were going to buy businesses or buy properties. The big thing to look at is is it a company that you know of, that's operating, that you have some awareness of and is reasonably successful," said Gaynor.

"So we want real businesses coming to the market, not cash boxes or companies that have no substance and have no operating records."

Mighty River Power to set market alight

In terms of the two IPOs slated thus far, Gaynor said one - the government's sell-down of state owned enterprise Mighty River Power - promises to set the market alight, while little detail's yet available of the proposed backdoor listing of Mad Butcher by shell company Veritas Investments. Nonetheless he said given Mad Butcher has a good brand name, it's a company investors will look at.

And although there remains a lot of opposition to the planned Mighty River Power IPO, Gaynor expects more investors than the 226,000 who bought Contact Energy shares in that company's IPO in 1999 to snap up Mighty River Power shares.

"I'd be amazed if Mighty River Power didn't get over 200,000. Why? It's a company that people can understand, it has got a very good image and brand name, it's a very reliable industry, the electricity industry, and when you look at Fonterra there was huge demand for that. Fonterra shares issued at NZ$5.50 (and) they're nearly NZ$2 higher at the moment. It just shows that there is really a strong interest in companies with good brand names that are well known. Genuine businesses that people know are genuine businesses."

"So Mighty River Power I can imagine will be very successful when it comes to the market," Gaynor added.

Sharemarket tipped to rise between 8% and 15% in 2013

Meanwhile, Gaynor suggests the NZX will gain somewhere between 8% and 15% this year, thus still providing better returns than most other investment options.

"I'd be very happy with anything around that (8% to 15%) margin. And of course when you've got interest rates on term deposits around 3.5% to 3.8%, no new bond issues and even if there were any bond issues I doubt if they'd be (paying) any more than 5.5% to 6%, a sharemarket return of between 8% and 15% on average across the board is not a bad return."