Pacific Brands With Conviction, Mid-Cap Resource Plays And More

This story features DOWNER EDI LIMITED, and other companies. For more info SHARE ANALYSIS: DOW

By Greg Peel

As I have noted in the past, many commentators find the Goldman Sachs “Conviction List” concept curious as by default it implies a stock rated Buy but not on the Conviction List is a “Buy Without Conviction”. However, the GS analysts would suggest it is simply a qualification of the broader Buy rating to include “best picks” amongst the field.

Locally, GSJB Were points out that its Conviction List portfolio has outperformed the ASX 200 by 1.4% month-to-date, by 23.7% over 12 months and by 32.4% since its inception in June 2006. Not to be sniffed at.

Today Weres has added diverse “lifestyle” retailer Pacific Brands ((PBG)) to its Conviction Buy list. The analysts suggest PBG has suffered from underperformance recently given its costly $150m transformation program and foreign exchange headwinds, but that investors are failing to appreciate PBG's earnings growth potential from here on.

After the first half of FY11, those forex headwinds (rising Aussie) actually turn into “major” tailwinds, the analysts note. Add in ongoing cost savings and Weres is forecasting 57% earnings per share growth in FY11 and an expected total return over the next 12 months in excess of 33%.

PBG's current FY11 price/earnings multiple of 9.1x is below the company's long term average of 10.5x and does not reflect this upside potential, the analysts suggest. When taking into account current consensus estimates for the company, the picture looks hardly any different: 38.9% EPS growth for FY11 and a Price-Earnings ratio of 9.5. (See Stock Analysis on the FNArena website).

PBG joins the current Conviction List of Aquarius Platinum ((AQP)), Asciano ((AIO)), Bradken ((BKN)), Downer EDI ((DOW)), News Corp ((NWS)), Seek ((SEK)), Ten Network ((TEN)), and Wesfarmers ((WES)). Weres has one Conviction Sell in Intoll ((ITO)).

I have spent much time discussing Australian mining majors of late, particularly in regard to expected bulk commodity price increases. Today Credit Suisse has looked further down the list to mining mid-caps to identify which companies offer the greatest leverage to “Western World Recovery”.

CS has made comparisons with the recovery from 1976 in suggesting a 10% increase in current base metal consumption forecasts would be needed in 2010 to match that period.

Were this the case, the analysts see the current aluminium supply overhang being wiped out to a 2mtpa deficit, that copper would hit a 1mtpa deficit, forcing a price rise which will bring on new supply, and that nickel would hit a more modest 100kt deficit in 2010 and thus make demand-supply balances more sustainable.

However, a 10% higher consumption forecast would have to be predicated on a Western World housing recovery or else such a level would be difficult to achieve, says CS. But were this the case, the analysts suggest investors should be in Alumina ((AWC)) and OZ Minerals ((OZL)) in the mid-cap space.

In the small caps, CS suggests PanAustralian ((PNA)), Equinox Minerals ((EQN)), Western Areas ((WSA)), Panoramic Resources ((PAN)), Independence Group ((IGO)) and Mirabela Nickel ((MBN)).

JP Morgans' analysts put in an all-nighter behind the wheel last night to cross from Queensland into Western Australia so to assess the state of the WA housing market as part of the broker's ongoing state survey.

Out of NSW, Victoria and Queensland to date, it seems WA's housing market has deteriorated the most post first home buyer stimulus. Traffic (inquiries) has become quite poor, but home builders are hoping secondary and investment buying will soon pick up to fill in some of the gap.

To that end, confidence has improved “significantly” among the builders, JPM notes, with a lot of faith being placed in the resource sector rebound driving housing demand. The broker suggests the sector will represent an important “theme” from here on.

So one can only assume that where goes the WA resource industry so goes the WA housing market.

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