Australia | Jun 17 2014
By Mathan Somasundaram, Baillieu Holst Quant Strategy
Summary: Aussie market closed slightly down on RBA minutes after recovering from the negative opening due to falling Iron Ore price. Aussie market closed down 0.21% while turnover was just below $4.7b. RBA continues to support low interest rates for longer. Few brokers are now downgrading Iron Ore stocks while others who were pushing Iron Ore recovery about $10 ago are back at it again. I rather be late to the party on this one…buy Iron Ore miners below $85 if falling or buy above $93 if it bounces. AUDUSD has now started to pullback below 94 cents, but we continue to expect to stay in the low 90’s in the short term on safe haven basis.
Macro Events: Tonight – US housing starts, consumer prices. Tomorrow – US Federal Reserve meeting; China May house prices.
Iraq war – the next generation: Unless you were hiding under a rock, Iraq was a basket case waiting to blow up after the war of the last generation. Trying to measure non-western countries and cultures based on western standards are fraught with danger. Taking spin aside, Iraq will remain a mess for a number of years, if not decades, till it reaches a new equilibrium between all the domestic non-western parties. The best case scenario for equity markets is for US and its allies to talk tough, move on and let nature take its course. Despite the social and human loss, equity markets have a way of looking past these issues as short term (i.e. like Ukraine and Syria). Any argument that Iraq is different will reinforce the argument that it is all linked to energy and not humanitarian. No matter what happens, this chapter of Iraq war (i.e. the next generation) will end in another mass loss of life and create another generation of hatred aimed at the West. We have been in this situation before and we are very likely to make the same mistake again.
M&A Cycle: Businesses with strong cashflow and solid balance sheet in a falling consumer sentiment and low interest rate environment prefer to chase growth through cost cutting, share buy backs and M&A. Cost cutting cycle is coming to an end with further improvements requiring wage reduction or M&A. Wage cuts will take time to work through structurally and also will have political implications for the government. This leaves corporates either buying back shares or consolidating industries to drive better earnings per share growth. Private equity is sitting on the side lines with substantial war chest built up by floating number of stocks over the past 6-12 mths. M&A candidates in media sector are TEN, SXL, PRT and APN likely prey while NWS, NEC and SWM are potential hunters. M&A candidates in retail sector are DJS, MYR and PBG are likely prey while Private Equity, PMV and global retailers are potential hunters.
Consumer Confidence: Tidal waves of unemployment coming in the next few years, rising cost of living pressures, falling real wages and budget worries have slammed consumer confidence down to multi year low. Recent Job Ads and Employment data further strengthens our argument that unemployment is going to get worse in the next 12-18mths. We continue to be negative on local cyclicals with slowing economy. Continued bickering, party politics, lack of long term planning and real policy reform will keep sentiment low. We expect the unions, pensioners and students to continue to keep the media fuelled for months to come. We expect the government to release the new welfare streamlining plans and I am sure that will get media attention and likely to be a further risk to consumer sentiment.
Property Prices: We continue to expect areas where substantial unemployment and middle to low income earners live (i.e. Canberra) to see property price decline in the next 1-2 year time frame while middle to higher income areas should trade sideways with affordability falling and rates remaining unchanged. The top end should continue to rise with overseas investors from Europe and Asia continuing to look at Australia as a safer location to park wealth. Recent housing finance data is beginning to show signs of affordability and consumer confidence taking effect. In a longer term thematic, we expect future generations to prefer renting than buying property with rising cost of education, housing and lower wages to make housing affordability harder without substantial assistance from their parents.
Tax Loss Selling: Be aware that we are headed for tax loss selling period where substantial underperformers/outperformers are likely to see selling pressure and open up buying opportunities. But be careful to not sell cyclical low stocks as they may become M&A targets very quickly as private equity is cashed up after number of floats.
Currency Outlook: We maintain our view that AUDUSD will settle around 94 cents (i.e. remain in 87-94 cents band) in the short term and then track down to mid 80s. We need to see substantial US or China growth risk for currency to break the recent trading pattern…now 93.5 cents.
Interest Rate Outlook: We maintain our view that our rates will remain unchanged at the current low level atleast till 2015Q2. We have to see substantial collapse of consumer sentiment from current low levels to force RBA to change lower. RBA can’t afford to support any more asset bubble inflation with lower rates despite global Central Banks keeping rates at historical low levels. More and more brokers are now moving back their rate rise expectations well into 2015.
POINTS OF INTEREST IN S&P 300 STOCKS BY SECTOR:
• Energy stocks were slightly negative despite middle east worries. We maintain our preference to the bigger players such as STO and WPL with OSH improving with recent upgrade. Big moves> DOWN: RFE (-8%), PDN (-3%) • Material (Ex Mining) stocks were slightly positive. We maintain our preference to packaging stocks such as AMC and ORA while NUF beginning to look good on the long term food thematic and ABC and DLX on the housing cycle. Big moves> UP: ORA (+4%) > Dividend Reinvestment Plan
• Mining (Ex Gold) stocks were slightly negative with falling Iron Ore. We maintain our preference in the big miners BHP (-0.98%) and RIO (-0.73%) while ILU is coming back into the picture with recent updates and management outlook. Big moves> UP: WSA (+5%) > Conference presentation, SYR (+5%), IMD (+4%); DOWN: BRL (-10%), IRN (-6%), SDL (-4%), BCI (-3%)
• Gold stocks were negative after few good days. We continue to like low cost producers like NCM, BDR and SAR with spot gold price heading back to $1300. Big moves> DOWN: SLR (-8%), SBM (-7%) > MD and CEO leaving, PRU (-6%), BDR (-6%), MML (-4%), SAR (-4%), AQG (-3%), IAU (-3%), KCN (-3%), RRL (-3%), PIR (-3%)
• Industrial stocks were slightly negative. We maintain our preference in CCP and SEK. We continue to see high risk in mining service companies due to China risk, commodity price volatility and resource sector capex decline from 2015. Big moves> UP: MXI (+8%), EHL (+5%), PRG (+5%); DOWN: UGL (-6%), TSE (-5%), MLD (-3%), DOW (-3%)
• Consumer stocks were mainly positive. We maintain our preference in ALL, FLT, AGI, SWM, SXL, PRT and TGA while remain a fan of other media stocks like TEN below 27 cents despite the problems and APN on M&A. We also like CTD on any pullback below $6…it’s a FLT in the making. We see big risk to discretionary retail stocks like DJS, HVN, JBH, MYR, NCK and TRS in falling consumer sentiment. Despite the downgrade FLT looks good value long term for global tourism exposure with recent pullback below $47. Despite the downgrades we like PBG due to the brand value and on GARY valuations. Despite the recent downgrade SUL is a quality stock that offers consumer experience that will see it recover with consumer sentiment. Big moves> UP: BBG (+4%), RCG (+3%), TTS (+3%); DOWN: TGA (-5%) > Trading ex-dividend
• Staple stocks were slightly negative. We maintain our preference in WES and WOW. SHV is beginning to look interesting close to $5 with Asian low fat protein demand. Big moves> DOWN: TWE (-3%) • Healthcare stocks were slightly negative. We maintain our preference in ANN, RMD and our pet favourite GXL. RHC is a buy on any pullback with population ageing and government cutting healthcare budgets. GXL announcement of cap raising and acquisition makes it an even better growth story. ACR looks like finally recovering from the lows after it was smashed on the growth scare story by a certain broker…there should be more upside in this story. Big moves> UP: ACR (+11%); DOWN: PBT (-7%)
• Banks stocks were slightly negative. We maintain our preference in ANZ and NAB as they offer best global exposure out of the big four. Big moves> DOWN: MOC (-5%)
• Diversified Financial stocks were slightly negative. We maintain our preference in MQG for the global exposure while HGG and BTT are worth a look on any pullback. FXL keeps falling to new lows every day. Big moves> DOWN: FXL (-4%) > Appointment of Chris Beare as Chairman
• REIT stocks were slightly positive. We maintain our preference in SGP and LLC to get housing and construction exposure while MGR, ALZ and DVN look interesting with housing exposure. Big moves> None
• IT stocks were mainly positive. We maintain our preference in CPU while remain big fan of CRZ and IPP in the long term. Big moves> UP: CDA (+3%)
• Telco stocks were slightly negative. We maintain our preference in TLS while remain big fan of TEL and IIN in the long term. Booming NZ economy should put more attention into recovering TEL. Big moves> DOWN: NWT (-8%) > Change of director interest, NXT (-4%) > Certification for S1 data centre
• Utility stocks were slightly positive. Big moves> UP: EWC (+7%); DOWN: EPW (-4%)
• Overall slightly negative day on decent volume.
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