Weekly Broker Wrap: IPOs, Life Insurance, H2 Skew And Climate

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

-Investors could trim positions
-Life insurance lapses
-H2 earnings skew grows
-Utilities exposed to global warming

By Eva Brocklehurst

There's been a dash to raise new equity before the year is out, with a spate of Initial Public Offerings (IPO) hitting the market. The suspension of hostilities over the US fiscal position and the decision by the US Federal Reserve to delay tapering has created the window of opportunity. This is also supported by market conditions with the S&P/ASX200 having reached a five-year high. CIMB notes, during the next two months, Australian companies intend to raise around $4.6 billion in new equity, with the bulk being IPOs. CIMB is positive about the US economic outlook, beyond a resumption of US fiscal fisticuffs in the new year, and the general outlook for the Australian market and thinks there should be solid interest from both institutions and retail investors.

Given the market is at lofty heights investors could trim positions in their portfolios, in CIMB's opinion. The broker thinks investors considering trimming positions in stocks, in order to fund a position in any of the upcoming IPOs, should consider Commonwealth Bank ((CBA)), Cochlear ((COH)) and Coca-Cola Amatil ((CCL)) as sources for funds. Cochlear, Fairfax Media ((FXJ)) and News Corp ((NWS)) have at least 9% of short interest as a proportion of free float an the analysts recommend they be used as funding sources. The average short interest for the market is around 3.3%.

Australia's life insurance industry has experienced a drop in growth. Both term life and disability income have seen growth drop to single digits in recent years. Most of the growth in life insurance is dominated by group business, which was up 14.5% in 2013. Credit Suisse thinks lapse rates are a big issue for the life industry and there's no sign this is being alleviated. As a result, the broker expects planned margins to take a further hit in the next 12 months and experience losses from income protection claims will continue to rise as well. AMP ((AMP)) and Suncorp ((SUN)) have the most exposure to life insurance as a percentage of total earnings. The broker prefers the pure general insurers, QBE Insurance ((QBE)) and Insurance Australia Group ((IAG)), over the former two.

Credit Suisse has observed that, over the last few years, there's been an increase in expectations for earnings to be skewed to the second half of a company's reporting period. Guidance of this nature assumes that operating conditions will improve but often the extent of recovery does not occur as expected. Currently, visibility remains low for businesses exposed to resources expenditure and domestic demand in FY14 is likely to remain somewhat soft so there is a risk that those stocks with the expected skew to the second half for earnings fail to meet guidance.To identify those at risk, Credit Suisse screened for June year-end industrial stocks that have a larger-than-usual skew to the second half for FY14. In particular, those where the skew is more than 5% above the average reported skew over the last five years.

Feedback from the mining services team reveals that there's downside risk for the second half skew on a sector-wide basis and particularly for Emeco Holdings ((EHL)). As well, the broker thinks this risk applies to SMS Management & Technology (( SMX)), Fleetwood ((FWD)) and Cochlear. Then there's the reverse potential, where the second half turns out to be materially better than expected. The upside risk here is with Myer ((MYR)) and Macquarie Group ((MQG)).

Hotter for longer. UBS has looked at policy trends on global warming. Short term economic costs appear to be too high for policy makers. As the world gets warmer, with difficult to predict and uneven impacts, at some point the net cost will become sufficiently obvious that the policy response will accelerate. Specifically, the analysts suspect that the electricity industry will have to live with low consumption, higher prices and ongoing renewable supply as electricity is at the forefront of global de-carbonisation efforts. The balance of risks means that, over the next 20 years, policy is likely to get harsher. The implications boil down to the fact that Australia's economy is heavily dependent on energy production, use and export. Specifically, Australia's number two export is coal, in terms of earnings. If global, and specifically Chinese, policy moves to reduce carbon output it will have an impact on Australia's coal exports.

Down the track the analysts expect ongoing efforts to reduce electricity consumption and ongoing support for renewables. There will be less and less enthusiasm for coal fired electricity, particularly in China and India. This may take time but, since power stations are built with long time frames and coal mine development is based around at least 20 years of planning, this likely to end up influencing investment decisions even now.
 

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