ASX Not Enjoying The Spoils

This story features IRESS LIMITED, and other companies. For more info SHARE ANALYSIS: IRE

-Few catalysts for growth near term
-Cash rate uncertainty supports derivatives
-Dividend yield a highlight
-Valuation appears stretched
 

By Eva Brocklehurst

Brokers have concluded that ASX ((ASX)) has few catalysts beyond a volatile interest rate environment to drive growth in exchange and market services activity. After a third quarter trading update which held few surprises the main positive for the stock remains the healthy dividend yield, at around 5%.

CIMB believes risks to the stock's valuation revolve around the potential for more macroeconomic shocks that could change the environment for corporate activity and/or risk tolerance for equities. There were few surprises in the third quarter trading update with all divisions growing revenue, albeit comparisons are being made with a relatively weak prior corresponding quarter. CIMB finds ASX has lost much of its leverage to the improvement in cash equities. On a positive note, the regulatory environment is becoming more settled and recent decisions have been largely in ASX's favour. In all, forecasts are unchanged and the broker believes the growth profile remains sub-market while earnings multiples are stretched. CIMB retains a Sell rating.

Trading activity-related revenue was weaker than Deutsche Bank expected but this was offset by higher dividend income related to the IRESS ((IRE)) dividend paid in March. The broker notes a key area of weakness is listings, with the IPO pipeline not showing a material increase, despite improving equity markets. Deutsche Bank's forecasts imply 9-11% earnings growth in the fourth quarter and in FY14, with a 5% dividend yield. Hence, the investment appeal is improving. No matter, at 17.4 times forward earnings estimates, and factoring in a full rebound in capital raising activity, the broker continues to see more value in other market leveraged stocks such as AMP ((AMP)).

ASX is developing over-the-counter (OTC) clearing and collateral management services which should be launched this year, subject to regulatory approvals. JP Morgan believes this could provide some incremental earnings growth but it's too early to factor that into numbers yet. The broker has decreased FY13 and FY14 earnings forecasts by 0.4% and retains a Hold recommendation, given limited upside on the through-the-cycle valuation. A factor which, in JP Morgan's view, may enable the stock to continue outperforming is that attractive dividend yield.

Citi highlights the fact that, in the short term, the dividend yield is increasingly important if the Australia's official cash rate falls and the retail investor returns to the market in earnest. The broker finds it disappointing that, despite the improved turnover, spot velocity across the entire cash market rose only slightly. Velocity on a rolling 12-month basis is static at 73.8%, suggesting the momentum in turnover trends is yet to translate into a material lift in velocity. To Citi, this says that the rise in market capital (share prices) has explained all the increase in turnover.

Citi notes market opinion is divided about RBA cash rate movements and that was likely the key driver of the March derivatives activity. If this uncertainty about the future of interest rates diminishes, and there are fewer external shocks, there could be more slowing in derivatives volumes.

Citi also observes that, beyond one reasonably sized initial capital raising expected in May, capital raisings will be unlikely to lift materially in the rest of the financial year. According to the list of upcoming floats, the Might River Power IPO is expected to raise $1.92 billion, near half the initial capital raised over the nine months to March 2013.There are another two IPOs timetabled for May and two for June. There are a further 67 with no scheduled date.

ASX needs retail money, which has fallen from around 20% of turnover before the GFC to around the mid teens, to make market turnover head higher and, to Citi, there is little sign this is happening. Interest rate stability could put a constraint on derivatives growth and IPOs, as previously noted, are unlikely to help lift revenue. It all adds up to there being few catalysts for the stock. Macquarie has observed that uncertain rate conditions will drive a second consecutive month (April) of high interest rate derivatives volumes, particularly the 90-day and 3-year contracts.

ASX has no Buy rating on the FNArena database, unsurprising given most brokers view valuations as a bit stretched. There are four Hold and four Sell. The consensus target price of $34.73 suggests 8.1% downside to the last share price. Consensus forecasts for FY13 earnings reveal a dividend yield of 4.8% and a 5.1% yield for FY14 estimates.
 

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

Click to view our Glossary of Financial Terms