Weekly Broker Wrap: Capex, Small-Mid Caps, Asset Managers, Capital And Banks

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-Non-mining capex plans look weak
-Credit Suisse outlines top SME picks
-Citi adds Tatts to focus list
-Henderson top pick for MS
-APRA to step up bank regulation?
-Still value in banks?
 

By Eva Brocklehurst

Capex Outlook

The 2015/16 portents for Australian capital expenditure are bleak. That is the opinion of UBS, unless investment intentions improve sharply. Business capex threatens to fall for the third consecutive year and this will be the first time this has happened in at least 50 years. What is more worrying for the broker is that current plans suggest capex, or lack thereof, could subtract more than 1.5 percentage points off 2015/16 real GDP growth. Mining, with a further 20% fall in expectations, is not the only culprit. Non-mining intentions, in the first estimate of business capex plans for FY16, fell 9.0%. UBS believes the capex outlook casts doubt on a return to near-trend economic growth in 2016.

Emerging Companies

Top picks among Australian small and mid cap stocks for Credit Suisse include APN News & Media ((APN)), where earnings growth is expected to come from gains in radio market share and the outdoor segment. Godfreys Group ((GFY)) is gaining share in an expanding industry and launching new products while iSelect ((ISU)) is a strong performer in health insurance and new verticals. Mantra Group ((MTR)) is in an earnings upgrade cycle with new supply and M2 Telecommunications ((MTU)) has increased market share with ongoing growth in broadband subscribers.

Citi adds Tatts ((TTS)) to its focus list after upgrading the recommendation to Buy. The company now has several strategic options that should drive significant value. The broker has removed iiNet ((IIN)) from the list following the cash offer from TPG Telecom ((TPM)) at $8.60 a share. The bid highlights the potential value in iiNet, in the broker’s view.

Goldman Sachs also removes iiNet from its small & mid cap focus list but makes no additions. The broker’s focus list in March to date is down 1.0% which compared with down 1.7% for the Small Ordinaries Accumulation Index, which implies outperformance. In March to date the key performers are iiNet, Nine Entertainment ((NEC)) and Flexigroup ((FXL)). The main detractors on the list for March to date are Sirtex Medical ((SRX)), PanAust ((PNA) and Skilled Group ((SKE)).

Asset Managers

Henderson Group ((HGG)) becomes Morgan Stanley’s top pick in asset managers as it offers the best blend of earnings growth and relative valuation. The stock is also uniquely positioned for flows from European quantitative easing and rising global allocations to alternative investments. The broker retains a positive view on asset managers, as global equities managers benefit from increasing asset allocation and lower-for-longer global rates.

In Australian financials, Morgan Stanley prefers wealth and asset managers over domestic insurers and banks. The broker retains an Overweight rating on Perpetual ((PPT)) and Platinum Asset Management ((PTM)). The Equal-weight rating on BT Investment Management ((BTT)) stems from the belief its trading multiples are not cheap. Magellan Financial‘s ((MFG)) global equity position is considered attractive but Morgan Stanley notes its business mix is more concentrated, which means sustaining rapid institutional inflows is challenging, so Equal-weight is preferred.

Capital Requirements

Morgan Stanley suspects that the Australian Prudential Regulation Authority (APRA) could introduce interim changes to capital requirements this year, prior to finalising the new Australian capital adequacy framework in 2016. The chairman, Wayne Byres, has indicated that APRA does not need to wait until the international rules are made clearer before making an appropriate response to the Financial System Inquiry’s recommendations.

APRA has announced steps to reinforce sound mortgage lending practices, using these benchmarks to decide whether additional supervisory action might be warranted, such as higher capital requirements. The chairman has signalled major banks need more capital against housing loans. A combination of official rate cuts, a surge in interest-only loans and investment property loans, as well as any delay in changes to international capital rules may prompt APRA to act, in the broker’s opinion. Morgan Stanley suspects APRA will lift the D-SIB (Domestic Systemically Important Banks) buffer by 1.0% and introduce a 2.0% mortgage risk weight floor.

Banks

As the regulators appear set on increasing bank capital ratios, Macquarie expects the major banks will start to build capital, as they did following the global financial crisis. Since they stopped providing a discount for dividend reinvestment plan (DRP) participants in 2012 the average participation rate has declined by 5.0%. As a result, Macquarie expects the majors will begin to offer discounted DRPs to satisfy heightened capital requirements and reduce the likelihood of having to raise capital through underwritten DRPs or share placements. There are varying degrees of capital flexibility across the banks, with the broker noting ANZ Bank ((ANZ)) has the greatest capital shortfall.

UBS observes the rally in bank stocks has pushed the sector multiple to unprecedented levels. Still, while expensive in absolute terms, they need to be considered relative to he risk-free rate. Marking to market for spot bond rates, banks are trading below fair value, in the broker’s view. For retail investors the banks’ 4.8% dividend yield, plus franking, still appears relatively attractive. There are some worrying signs, nonetheless. The broker notes the banking sector is now 32% of the ASX300 by market capitalisation, believed to be the largest exposure to the banking sector for any developed market exchange in modern history.

Housing now makes up 61% of all Australian credit and 65% of the major banks’ Australian loan books. Australian house prices are now 31% above pre-crisis highs led by Sydney, where median house prices are now 53% above pre-crisis highs. UBS believes the banks will keep outperforming while this environment remains intact. Capital remains the biggest issue for the banks, given the expected introduction of risk weight floors and migration to stronger capital levels. The longer the debate on increased capital continues the higher the eventual requirements are likely to be, in UBS’ opinion.
 

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