Weekly Broker Wrap: Money, Markets, Banks And BHP

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            [1] => ((WBC))
            [2] => ((SIP))
            [3] => ((API))
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This story features NATIONAL AUSTRALIA BANK LIMITED, and other companies.
For more info SHARE ANALYSIS: NAB
The company is included in ASX20, ASX50, ASX100, ASX200, ASX300 and ALL-ORDS

By Andrew Nelson

Last week local analysts made their final calls about an economic world view before the outcome of the Greek elections, which should be concluded by the time you read this. Yet while the polls may now be closed, it will likely be a while before we have a clear picture as to what government has actually been elected and what path the winner may take in regards to repaying debt and remaining in the eurozone.

With question marks still abounding, last week saw local brokers take detailed looks at FX forecasts and global macro trends, domestic, regional and global market sentiment and domestic issues such as possible impairment risks for BHP Billiton ((BHP)), pharmaceutical wholesaling and the banking sector.

The first cab off the rank in today’s report is BHP and the concerns held by Bank of America-Merrill Lynch that the iconic Aussie miner may be staring down the barrel of some significant impairments if things don’t start going the company’s way, and quickly.

Specifically, the broker notes the company’s aluminium and alumina businesses are currently experiencing very difficult times. This assumption is underscored by poor recent results and recent comments from senior management bemoaning the cyclical and structural challenges faced by these businesses.

In fact, the broker estimates that without some sort of restructuring exercise, the broker’s current NPV (net present value) figure for these operations comes in well below BV (book value). Looking at the broker’s “worst case scenario” valuation assumptions, it notes its NPV is well short of BHP’s BV of US$5.9bn for the alumina assets and US$2.6bn for the aluminium assets at end the end of 2011.

Given BHP has already signalled its general intentions to shed unprofitable assets, BA-ML believes the company will look to restructure these assets and failing that they would likely either be shut down or sold off over time. With current earnings margins of (-3)% for alumina and (-5)% for aluminium, the broker finds it's very difficult to see any other way forward.

For BA-ML’s FY13 NPV to match BV there would either have to be around a 1% per year drop in total costs, with earnings margins reaching 20% for alumina in FY20 and lifting 7% for the aluminium assets.  The only other way is for the broker to increase its aluminium price assumptions by 20% through all forecast years, which means the FY13 forecast price of around of US$1.32/lb would have to rise to US$1.50/lb by FY20.

The broker points out that the group’s alumina assets have the greatest book value, but it also believes the impairment risk as lower here, given better levels of profitability and some extra elbow room given recent capex. On the other hand, BA-ML predicts the company’s Alumar refinery and smelter stakes are probably more likely to be sold than written down, with Bayside and Hillside aluminium assets the most likely to be at risk of impairment.

Post a recent investor road trip, ANZ’s head of global markets research, Richard Yetsenga, shared some of the insights he gained on the global outlook and made a few recommendations based on his expectations and the bank’s current forecasts.

First and foremost on investor’s minds is Europe and Yetsenga notes that sentiment is so poor that there are virtually no buyers on weakness here and few buying anything at all. Yet while it's difficult to find anyone with a good thing to say about Europe, he notes while opinion is almost unanimously negative the investment conclusions that stem from similar macro assumptions do vary a bit.

Yetsenga points out that leveraged/shorter-term money is very bearish and remains focused on a risk-on/risk-off market framework. Meaning those of this view are broadly long the USD against everything else, while sitting short on commodities. On the other hand, real/longer-term money is more cautious than genuinely bearish, although Yetsenga observes the inventory of globally investible assets is shrinking daily.

Thus, the issues faced by Europe are pushing longer-term money towards other high quality assets like the Singapore dollar, the Korean won, the Malaysian ringgit and the Aussie dollar rather than, indiscriminately towards the USD as happened initially in the post-GFC meltdown. Given the bout of easing that is just kicking off in China, Yetsenga reckons it is now even less likely the USD will be able to rally significantly against the above named currencies.

Asia is simply in a much better place this time around, says Yetsenga, noting the structure of Chinese imports is becoming increasingly geared to domestic uses rather than simply being re-exported. Thus, the retreat of European banks from trade finance has been offset by increased interest from Japanese and other Asian banks. The Singapore dollar, the Korean won, the Thai bhat the Chinese yuan are ANZ’s favoured Asian currencies.

Analysts at Deutsche Bank provided us with much appreciated good news last week. Analysts are predicting the Australian banking sector is set to see some strong growth in the second half of 2012 given the benefits of mortgage re-pricing, productivity work and less one-offs than were seen in the first half of the year. The broker estimates these factors will more than offset the headwinds from falling deposit rates, exit margin drag and higher amortization costs.

The broker notes current consensus only implies 0% organic growth, but its analysis is pointing to the possibility of 2-4% organic growth, which means there’s some good upside potential to consensus.

While the broker admits deposits will continue to be closely watched in the foreseeable future, on its numbers the downside from falling deposits will only be around 1.7bps over the 2H, while the upside from asset re-pricing will be around 7.4bps. This has the broker thinking margins will be up strongly in the 2H.

In this environment, the broker singles out ANZ ((ANZ)) and Commonwealth Bank ((CBA)) as being the most likely top performers. The broker believes ANZ’s Asian strategy will see it deliver above peer growth over the longer term, while CBA’s advantage in technology and its currently strong market position will provide plenty of support to grow underlying earnings.

The outlook for National Australia Bank ((NAB)) and Westpac ((WBC)) is seen as somewhat more challenging as both are looking at uphill slogs to increase retail funding in the face of tough competition sector wide.

Credit Suisse also came out last week telling investors why it likes the look of the local pharmaceutical wholesale sector despite a relatively modest earnings outlook. With the broker’s strategy team expecting further deleveraging pressures  in  Europe, which will likely  weigh  on  global  economic  growth, it expects Sigma Pharmaceutical ((SIP)) and Australian Pharmaceutical ((API)) will outperform the ASX based on their defensive  qualities. The broker notes government funded spending represents a significant proportion of each company’s revenue base.

On top of that, both stocks offer healthy dividend yields, with SIP at 7.5% and API at 9%, while also boasting quite low capex requirements, which just increases the attractiveness of both in a world of continued macroeconomic headwinds.  Further, the broker notes SIP’s solid balance sheet and the likelihood of near-term capital management make the stock quite attractive. This is less so for SIP given a higher level of risk stemming from more retail exposure, the broker still thinks the stock is very undervalued on a risk-adjusted basis.

Last week. BA-ML also gave us a good view of what fund managers are thinking and doing on a global, regional and local basis. On a global basis, the broker points out fund managers aren’t quite yet at a maximum bearish setting, but they’re getting close. Optimism has fallen back to autumn 2011 levels and the broker reckons all that is needed to tip us to fresh lows for equities is a big bungle in policy settings. On the upside, BA-ML thinks a “big bang” policy response could well see a sizeable rally in global markets.

The broker notes there has been a sharp decline in global growth expectations, which have fallen from +15% to (-11)%, with only 5% of investors polled expecting to see above trend growth over the next 12 months. Quantitative easing expectations have also increased, with 73% expecting Europe to start easing, while 44% are now expecting the Fed to kick off QE3.

The choice between cash and risk has almost become a one way street, with cash balances jumping to 5.3%, third highest level on record. Meanwhile, the broker notes the risk index has fallen to 30, its lowest since September 2011, while perceptions of liquidity conditions have also turned negative for the first time since the ECB’s LTRO.

Meanwhile, portfolio allocation to commodities has fallen to its lowest level since February 2009, with investors hugely underweight on materials and energy. BA-ML notes there has been a big rotation to pharmaceuticals, telcos and utilities. The banks are otherwise unloved and the tech sector is now turning very popular.

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