The Overnight Report: Who Said Overvalued?

This story features COMMONWEALTH BANK OF AUSTRALIA, and other companies. For more info SHARE ANALYSIS: CBA

By Greg Peel

The Dow closed down 86 points or 0.5% while the S&P lost 0.5% to 2080 and the Nasdaq fell 0.4%.

Rout

“The ability of the banks to see further share price gains comes down to their ability to continue to drive dividend growth.”

So said Citi in its bank earnings season preview last week (Australian Banks: Stuck In The Middle With You). And there, in a nutshell, we have the driver of yesterday’s 2.3% shellacking of the Australian stock market.

For years bank analysts have been warning that bank earnings growth is negligible. Only because bad debt provisions taken in 2009 have been brought back to the bottom line have the banks been able to provide the dividend increases they have. That provision gold mine is now exhausted, as Commonwealth Bank ((CBA)) confirmed yesterday, and without it, there’s no real earnings growth as, again, CBA confirmed yesterday, and Westpac on Monday. No earnings growth, no dividend growth.

Yield hungry investors bought up the banks ahead of the RBA meeting on the assumption there would be a cut and that’s good for banks. Well they got the cut, by all accounts the last one, but is it good? The RBA cut because the economy is weak. The banks aren’t lending money, why else would the Treasurer plead with Australians to borrow? Only yesterday did reality begin to hit home.

It was also, to use an increasingly hackneyed phrase, a “perfect storm”. The overarching driver was the supposed end to the RBA’s easing cycle which, when combined with the assumption the Fed will raise later this year, highlights overvaluation in all Australian yield stocks. So aside from a 3.3% fall in the financials, we saw a 2% fall in the telco and a near 3% fall in utilities. Another popular yield sector is supermarkets, and our perfect storm saw Woolworths ((WOW)) choose yesterday to admit just how bad things are as well. So consumer staples were down over 2%. And no more rate cuts is not encouraging for retailers, so consumer discretionary chimed in with a 2.5% plunge.

Notwithstanding a 0.3% rise in March retail sales missed 0.4% forecasts.

But if Paul Keating were commentating yesterday, he would likely say it is a rout we had to have. Unless he has CBA shares, in which case he probably threw an antique clock at the wall. As mum and dad investors lick their wounds today, and change their bandages, it’s probably not a good time to say yesterday was “healthy”. But it was.

Usually when Australian banks stocks fall, they don’t fall very far before value hunters save the day. How long will it be this time?

US Weakness

Calls of stock market overvaluation are not confined to Australia. Last night Janet Yellen called the US stock market exactly that during a televised Q&A on the couch with bestie Christine Lagarde. Such commentary from the Fed chair always irritates Wall Street as it is not her place to do so. Last time Yellen called biotechs overvalued they were subsequently trashed.

But last night’s weakness on Wall Street was not really Yellen-inspired, and indeed the buyers came over the hill at the death to turn what had been a 195 point drop in the Dow to only an 86 point drop. The main driver of weakness was jobs.

At 169,000, US private sector jobs growth slowed to a five-month low in April, according to ADP’s survey. The March figure was revised down to 175,000 which is for the first time in two years two consecutive sub-200k numbers have been posted. Last month Wall Street was prepared to put a weak number down to snow, just as it had in 2014. But April? Not a lot of snow around in April.

It all bodes rather poorly for Friday night’s non-farm payrolls release. In the wider scheme, it bodes poorly for those who expect another 2014-style economic rebound in the June and September quarters. Subsequently, the US dollar index fell 1% to 94.13.

Normally US economic weakness would inspire a sell-off in equities to buy bonds but if we’re talking “overvaluation” in financial markets, we need look no further than bond markets. Even if the Fed does hold off to later in the year or even next year, the selling has quietly begun. Thus the US ten-year bond yield rose another 6 basis points last night to 2.24%.

Commodity Capers

Base metals have run up very hard this past week having languished for some time, and a lot of it has been to do with the falling US dollar. So given the greenback fell another 1% last night one might presume LME traders were in buying again last night. Not so.

The rally has been currency driven when the fundamentals have not been supportive. At some point no amount of forex support is going to overcome simple demand-supply economics. It seems the final straw was last night’s weak US jobs report. Someone said it might be time to take profits and very soon everyone piled in. Copper fell 1%, zinc 1.5%, nickel and aluminium 2% and lead 3%.

The oils fell last night as well but only a little bit, however it was enough to evoke calls that we may have now seen the near-term top. It was US weekly inventory reporting night and as usual the crude number surprised, in this case to the downside. The trend of recent months has been that any fall in inventories sparks rabid buying. But last night West Texas slipped a tad to US$60.62/bbl and Brent slipped a tad to US$67.37/bbl.

Run out of puff?

And does anyone remember 60 iron ore? Well look out, we’re back there again, with a US$1.00 rise to US$60.10/t. If 60 is going to prove psychological for WTI, will it be the same for iron ore?

If anyone’s walking through Martin Place today, past that gloriously ornate testament to seventies architecture known as the Reserve Bank building, don’t be surprised to see Glenn Stevens outside banging his head against the wall. The Aussie is up 0.4% to US$0.7975.

Today

The SPI Overnight closed down 22 points or 0.4%. So do we go on with it, or, as has typically been the case of late, the bargain hunters emerge?

Perhaps today’s local jobs numbers will provide an incentive. Although given no one ever believes them, probably not. It might all come down to National Australia Bank’s result ((NAB)). We went down on Westpac, up on ANZ and down on CBA.

Rio Tinto ((RIO)) is among those companies holding AGMs today.

Tonight is the UK election, but by all accounts it could be a month before a government can be formed. Not good for stock markets.

Rudi will be making a double appearance on Sky Business today. First on Lunch Money, noon-12.45pm, then later on Switzer TV, between 7-8pm.
 

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