In Brief: Housing, Agriculture, Insurance And Oil & Gas

This story features MIRVAC GROUP, and other companies. For more info SHARE ANALYSIS: MGR

The weekly broker wrap: Citi’s positive view on housing, preferred exposures to agriculture, market share for insurance and tax impacts for the oil & gas sector.

-Are we approaching the bottom for the residential housing market?
-New agricultural preferences to align with El Nino 
-Potential revisions to the Petroleum Resource Rent Tax
-Market share concerns for incumbent insurers
 

By Mark Woodruff

Are we approaching the bottom for the residential housing market?

Citi is becoming cautiously positive on the housing outlook over the next 6-12 months and upgrades its recommendations for Mirvac Group ((MGR)) and Stockland ((SGP)) to Buy from Neutral.

While the looming reset of fixed mortgages to variable (aka "The Mortgage Cliff") and lower borrowing capacity create some near-term uncertainty, the broker cites positive medium-term dynamics including rising immigration and low housing supply.

Moreover, rental vacancies are at near record lows and the unemployment rate is set to remain lower than historical levels, explains Citi.

Despite rising interest rates, the analysts see evidence of pent-up demand by buyers in the housing market. Data from Corelogic showed an increase in February house prices in Sydney, followed up by a rise for most capital cities in March.

The RBA has added to this demand by holding the cash rate steady in April, suggests Citi.

On one hand, the analysts concede lower borrowing capacity could presage a further correction in near-term house prices. On the other hand, it’s felt excess savings, either held in mortgage offset accounts or in "other savings", should offset at least some of the Mortgage Cliff headwind.

The broker sees more upside for Stockland relative to Mirvac given a lower relative valuation and higher residential exposure. Strong growth is also anticipated for Stockland’s logistics and retail businesses by comparison to Mirvac’s office exposure.

Citi is also Buy-rated on Ingenia Properties ((INA)) for exposure to the land-lease sector.

New agricultural preferences to align with El Nino 

The 2020-22 party is over for La Nina winners such as Elders ((ELD)) and GrainCorp ((GNC)), which are now past peak earnings in this cycle, according to Macquarie. 

Australian agricultural production is coming off record highs for both volumes and prices, and now the Australian Bureau of Meteorology predicts an even money chance an El Nino may form later in 2023. 

Such events often result in lower-than-average rainfall over much of eastern Australia, and higher than average rainfall in parts of the northern hemisphere.

While Macquarie retains its Outperform ratings for both Elders and GrainCorp, the broker now prefers the likes of Costa Group ((CGC)) and Inghams Group ((ING)), which will benefit from more normal seasonal conditions and lower input prices.

The broker's next preference in the Agricultural sector behind Costa and Inghams is Outperform-rated Nufarm ((NUF)), due to a robust outlook for AgChem in FY23 and growth in its seed technology business.

Macquarie is on research restriction for United Malt following the takeover offer by Malteries Soufflet.

Market share concerns for incumbent insurers

While personal and commercial lines of insurance in Australia are experiencing an unusually strong pricing environment, Morgan Stanley is maintaining a watching brief on market share losses for incumbents.

Insurance Australia Group ((IAG)) and Suncorp Group ((SUN)) fit the definition of incumbents, which is direct insurers that predominately (but not exclusively) offer insurance in personal lines and hold the largest market shares.

Challengers in the personal insurance space, which have smaller market shares than incumbents, have secured 10% gross premium (GWP) market share over the past four years in a sustainable (read profitable) fashion, explains the broker. 

These include brands such as Auto & General, Hollard and Youi.

Mutual insurers have also expanded market share in personal insurance to now hold 4.5% of the market.

Chubb has been the biggest winner over the past four years in the commercial insurance space, note the analysts, and has gained 0.6% share while maintaining an average combined ratio less than 90%.

The combined ratio is calculated by taking the sum of incurred losses and expenses and then dividing them by the earned premium. Hence, a smaller figure is preferable.

QBE Insurance ((QBE)) – ex its lenders' mortgage insurance business – also grew its commercial insurance by 0.4% over the four-year period, while Zurich lost -0.2% share.

Over the last four years, IAG and Suncorp have lost market share of around -3% and -2%, respectively, based on Australian Prudential Regulation Authority (APRA) data.

This loss of share suggests to Morgan Stanley the need for both companies to improve their operational and strategic performance in the medium term, as well as manage earnings volatility and climate change.

The broker retains its Overweight recommendations for Suncorp and QBE, while IAG is kept at Equal-weight.

Impacts of potential revisions to the Petroleum Resource Rent Tax

If recent media reports can be relied upon, the Federal Government is contemplating taxation changes for the Oil & Gas sector. In particular, the Petroleum Resource Rent Tax (PRRT) may be up for review.

Any changes to the PRRT, which could also apply retrospectively, would further reduce the confidence oil & gas companies have for investing in new supply, and would potentially place future energy security at risk, suggests Jarden. 

Woodside Energy ((WDS)) would be most impacted by any change, according to the broker, Santos Energy ((STO)) wouldn’t be materially affected, while no ramifications are envisaged for Beach Energy ((BPT)).

PRRT is payable at a rate of 40% on excess revenues once producing assets in Commonwealth waters have generated a return that is 5% above the long-term bond rate. The tax is deductible for corporate tax purposes. 

As a result of high oil and LNG prices in 2022, Woodside Energy adjudged the 90%-owned Pluto LNG Project would likely have to pay PRRT in the future and booked a $1.3bn deferred tax asset against the project.

The maximum valuation impact on Woodside from an accelerated of Pluto PRRT payments would be less than -$1.50/share or -4% of Jarden’s valuation.

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