Weekly Broker Wrap: AUD, Banks, 2015 Surprises, Aged Care And Key Picks

This story features ANZ GROUP HOLDINGS LIMITED, and other companies. For more info SHARE ANALYSIS: ANZ

-Is AUD heading below US80c?
-UBS re-rates Oz banks
-What if credit markets crashed?
-What if Oz companies raised capex?
-REG Macquarie's top pick in aged care
–GS removes ORL from list after warning

By Eva Brocklehurst

Australian Dollar

ANZ forex analysts consider the decision to ease official interest rates by the Canadian central bank is a signal for the Australian dollar. The significance of the central bank's action lies in the fact the macro case for the easing was not clear cut. The Canadian economy has more leverage to the negative impact of the decline in oil prices compared with Australia's but the fall in oil is matched by the descent of iron ore prices. Simply put, oil is 22% of Canada's export basket while iron ore and coal make up 34% of Australia's. The analysts contend that weak growth and low inflation provide space for easier rate settings. Australian data in the next week – business confidence and CPI numbers – is likely to be soft and the analysts believe a more sustained easing cycle from Australia's Reserve Bank will be further priced in. The Australian dollar is likely spending its final days above US80c.

Bank Outlook

Australia's economy is patchy and market volatility has risen so UBS envisages many investors will be struggling for high conviction investment alternatives. High quality franchises which offer reasonable growth have become crowded trades with stretched valuations. Australian bond yields are now near record lows and the market is pricing in rate cuts. In this environment the broker believes the strong dividend yields of the banks make them relatively attractive. UBS acknowledges the absolute valuations of the banks are not cheap but believes a further re-rating is possible.

With this in mind, the broker considers the outlook for Australia's banks is benign. Trading income is expected to bounce back, given the increased volatility in the Australian dollar. This could provide the biggest leverage for both ANZ Bank ((ANZ)) and Westpac ((WBC)) in the near term. UBS upgrades Westpac and National Australia Bank ((NAB)) to Buy. The broker cites Westpac's solid momentum in retail and business banking and support for NAB's turnaround strategy. ANZ is downgraded to Neutral however, as UBS suspects returns from its Asian wholesale banking arm will continue to be pressured.

What Could Surprise in 2015?

Credit Suisse has singled out some developments that, while not core views, may have a disproportionate impact on stocks if they materialise. The surprises include a sharp increase in global stock markets consistent with the late stages of a bull market, a hard landing in China, with repercussions for Australian miners in particular, a lack of action on the expected US Fed rate hike, supporting the Australian dollar and forcing the RBA to ease, and a crash in global credit markets. The main reason the broker is positive about Australian equities is because credit remains a cheap source of financing for companies. Capital raised in the credit market is expected to be used to retire equity. A credit crash would stop this and stock indices would struggle to make gains.

Specifically for Australia, surprises for 2015 would include a reversal of the federal government's austerity policy and a reduction in foreign demand for property. Weaker foreign demand would remove an important margin buyer of Australian property and make it harder to re-balance the economy away from mining investment, in the broker's view. Another surprise would be if self-managed super funds develop more appetite for international equity holdings. Much of their money – they control a third of Australian super assets – is funnelled into the Australian equity market where the post-tax yield is considerably higher.

Another surprise would be Australian companies raising capital expenditure significantly. Capex-heavy companies have a poor history of returns and, while a pick up in capex may be positive for economic activity and job creation, it would be negative for shareholders as the investment would be made at the expense of capital returns.

Aged Care

Macquarie has assessed the Australian aged care providers and considers Regis Healthcare ((REG)) is ahead in terms of growth capability. The broker concedes the stock is not cheap but argues that in a sector where value is created by development and acquisition, it remains the safest and most attractive option. Macquarie has initiated coverage of Estia Health ((EHE)) with an Underperform rating. The stock offers operational improvements over the next 18 months but the broker finds plenty of risk in the outlook, given the quantum of uplift that is forecast and the need to integrate a large number of acquisitions. Japara Healthcare ((JHC)) has been downgraded to Neutral from Outperform. It remains the most attractive of the three under cover in terms of valuation but carries meaningful near-term earnings risk, in Macquarie's view.

Top Picks

Credit Suisse has updated its top picks to include a constructive view on Macquarie Group ((MQG)), based on the scope for positive capital markets and a rebound in equity related income. Compared with the average global investment bank, the broker considers Macquarie relatively clean of regulatory, political and litigation risks. Credit Suisse considers Computershare ((CPU)) is undervalued relative to its historical trading range, offering an attractive entry point. Guidance for FY15 is considered easily achievable.

Syrah Resources ((SYR)) is another added to the top picks as recent graphite transaction prices for the quality that Syrah is likely to produce are materially above the prices assumed in valuation. Asaleo Care ((AHY)) is expected to retain stable revenue. Rising costs spurred by the fall in the Australian dollar are not factored into the share price in Credit Suisse's view. Harvey Norman ((HVN)) is another addition as it stands to benefit from the implementation of new stock management systems this year, which should lower cost and improve franchise profitability.

Small & Mid Caps

Goldman Sachs has added SAI Global ((SAI)) to its Australian small and mid cap focus list. The broker believes the company-specific risks have been reduced. A new CEO has been appointed and the Compliance tech platform is nearing completion. OrotonGroup ((ORL)) has been removed from the list following its profit warning, with Goldman Sachs downgrading to Neutral from Buy.
 

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