Weekly Broker Wrap: Australia To Grow, Modestly

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-Oz business, consumer confidence diverge
-Economic growth below trend
-Modest improvement in housing, building
-Coalition broadband policy positive for small telcos
-Coalition win could benefit miners, industrials
 

By Eva Brocklehurst

We're blaming a lot on a high Australian dollar these days. One thing it could explain is the divergence between business and consumer confidence. Citi analysts think so. They note improvement in consumer sentiment usually translates quickly into business confidence. This time it hasn't. Consumers are benefiting from the high Australian dollar through lower prices for imported goods and travel expenses but business profitability is being squeezed. With the recent quantitative easing announced by the Bank of Japan, Citi analysts believe the stubbornness of the Australian dollar will stay a problem for many Australian businesses. The analysts point to production cuts and job losses recently flagged by General Motors Holden and suspect manufacturing prospects are unlikely to improve in the near future.

St George Bank economists find the Australian economic outlook is patchy and suspect that the economy, after 3.7% growth in 2012, will grow below trend at just under 3.0% in 2013. Housing is one area that is positioned for moderate growth, the economists maintain. Over the past decade a lack of new supply has underpinned house prices and residential building has been running at below average levels for some time. At the same time population growth has picked up.

All this sets the stage for more growth in house prices and an improvement in residential construction. The economists suspect it will be uneven across the country. Over the next year they expect modest house prices increases of 5-10% per annum. Forget about any return to 20% growth in house prices that was witnessed in the early 2000s. Housing finance is growing and auction clearance rates are picking up and the economists think this heralds improvement in home buyer sentiment. The key word is modest, whether it be house prices, housing construction or housing finance.

JP Morgan asks whether the shortage of housing in Australia is real or just perceived. On the back of the 2011 census population data the analysts pose the question of whether a shortage exists. The figures suggest the number of heads per household is 2.51, 4% lower than previously thought. Crunching the numbers, for the analysts this implies there are around 370,000 fewer houses needed than was previously considered to be the case and eliminates the widely perceived shortage figure of 150-200,000. So, based on expected average population growth of 1.4% and average head per new dwelling of 2.05, there are around 150,000 housing starts needed. While the figures do not definitively prove the shortfall is more perceived than real, they suggest a less acute shortfall. Hence, the prospect of a sharp rise in residential construction appears remote.

Domestic building construction activity appears to have found a floor, in CIMB's view. Potential capacity constraints in better performing states and Victoria are likely to remain subdued for some time. The housing recovery is also expected to be more gradual than in prior cyclical rebounds. The analysts note a lack of confidence is the most commonly cited obstacle for broad based improvement in housing sales and, therefore, construction activity. Responses to CIMB's survey were the most positive the analysts have seen for some time but this was not surprising considering the gloom that has abounded for some time. The analysts believe FY12 was a cycle trough and there will be… here's that word again… modest (2%) growth in housing starts in FY13. The analysts expect Victoria and Queensland will remain a net drain on national housing activity. The recovery should gather pace again in FY14 and the analysts are forecasting 6% growth.

An now for something completely different. The government has announced changes to the tax treatment of deferred Lifetime Annuities (DLAs), to provide a potential source of new growth for the life insurance industry. Analysts at JP Morgan believe the changes could be worth an incremental $800 million in annual profits by 2020 if DLAs capture 5% of post retirement assets. This is achievable, they maintain, given the lack of retirement products that provide income certainty.

If DLAs were to gain popularity it would be against the trend in the retirement income market, which has seen the annuity market share fall from around 40% of assets in 2000 to 9% in 2012. Instead, allocated pension products gained popularity because of flexible drawdown and as tax advantages of annuities were neutralised. The analysts note lifetime annuity sales virtually disappeared after 2007. Nevertheless, it will be a hard sell. The analysts believe DLAs will appeal to those with retirement savings of $300-700,000. At present, the median of super saved is still below $100,000 so DLAs are not a mass market product.The key for life insurers will be dealing with investment and longevity risks.

Citi has taken a look at the Coalition's broadband policy. The broker believes Internet Service Providers (ISP) stand to benefit from the prioritisation of regional areas in the network roll-out and the scope for lower wholesale access pricing. Those in the spotlight for this include iiNet ((IIN)) and TPG Telecom ((TPM)). The broker warns there is potential for a broadband price war in the quest to gain market share. The Coalition NBN plan includes a 5-year network roll-out, a move to FTTN architecture and lower wholesale access price because of the lower network building cost. The Coalition will amend the network roll-out in order to prioritise areas deemed inadequately served by broadband. This would enable iiNet and TPG to expand regional presence sooner under an access regime that is independent of Telstra ((TLS)).

At present Telstra holds a 75% retail subscriber share in non-metro exchanges and iiNet has 8% while TPG has 5%, in Citi's estimation. What concerns the broker is that retail pricing is the only lever for iiNet and TPG to stimulate growth in the broadband subscriber base. The broker acknowledges the potential for lower wholesale access pricing to increase growth margins but thinks the more likely outcome is the partial offset in gains via retail price cuts. Nevertheless, the Coalition's policy presents potential valuation upside for ISPs, adjusting for market share gains and lower access costs. iiNet is seen benefiting the most against TPG because of the accelerated migration of a larger off-net customer base to the NBN.

CIMB suspects the ALP government could lose 18 seats in the House of Representatives after September's poll. Most of the lost seats would be in NSW and Queensland. Sentiment should also pick up with an end to minority government. A robust Coalition victory is expected to improve sentiment, although CIMB analysts note the unpopularity of Tony Abbott as a leader. There is also a lack of clarity on how the Coalition would balance popular promises at the same time committing to budget sustainability. Confidence is not expected to make a step change higher on election day. The implications of a Coalition win mean the unwinding of the mining and carbon taxes. This would benefit miners and the broad industrial sector. Telstra is expected to be insulated by the shift in Coalition policy on the NBN. Qube Logistics ((QUB)) is one stock the broker thinks might benefit from a private sector approach to the development of the Moorebank intermodal.
 

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