Infrastructure Outlook Key To Macquarie Group

This story features MACQUARIE GROUP LIMITED. For more info SHARE ANALYSIS: MQG

Brokers were not surprised by Macquarie Group's upgrade to FY18 guidance although highlight the exceptional amount of capital raising in the MIRA division.

-Strong growth and significant exposure to infrastructure, energy and technology
-Are higher interest rates being factored into the share price?
-Potential to reduce exposure to market-linked segments and improve growth options
 

By Eva Brocklehurst

As expected, Macquarie Group ((MQG)) upgraded FY18 guidance at its February briefing amid a favourable operating environment across most of its businesses.

The financial group now expects profit growth of 10%, after previously signalling FY18 would be “slightly” higher. Consensus expectations were already incorporating this level of growth, so few brokers were surprised.

Exceptional capital raising levels were noted in the infrastructure and real assets (MIRA) division. Macquarie Group raised around $7bn in equity in the first quarter versus around $4bn invested. The acquisition of GLL Real Estate was also announced. This is a $10bn real estate asset manager based in Germany.

The group's FY18 outlook statement has positively re-cast commodities and global markets, with the addition of a positive view for equities and the removal of a previous view regarding market conditions for commodities being subdued.

Brokers also note, for the first nine months of FY18, the company stated that contribution profit from annuity-style businesses was higher, while capital markets-facing businesses were down on the prior corresponding period.

Morgans believes the briefing reinforced Macquarie Group's superior medium-term growth profile versus most Australian financial stocks and suggests its significant exposure and expertise in real asset classes, such as infrastructure and energy, combined with strong structural demand, positions the business well.

Management has pointed out that increasing investment competition is pushing the group to focus on more complex infrastructure deals. That may be the case but the market position, skill set and integrated service offering suggest to the broker the group can hold its own.

The briefing has highlighted for brokers the importance of the infrastructure and energy segments. Macquarie Group's focus on these sectors means revenue is derived from multiple areas – via investing in assets on behalf of clients, co-investing, advisory and trading fees.

Morgan Stanley suggests the near-term earnings risk is low, given favourable operating conditions but considers the multiples are full and maintains an Equal-weight rating.

The broker upgrades FY19 profit estimates by 5% on the back of lower US tax rates. The timing of realisations may be hard to predict but Morgan Stanley observes there are material unrealised gains in MIRA, seed assets and investments across industrials and resources.

Rising Risk

Morgan Stanley's strategists expect rising core inflation and tightening monetary policy, and believe this environment down the track will make it harder for Macquarie to increase underlying operating revenues, making it more reliant on lumpy items, thereby increasing the risk of a drop in profit for the first time since FY12.

The broker is more positive regarding the near-term outlook for the global economy and favours companies with global growth options. Macquarie Group generates two thirds of its revenue outside Australia.

Citi agrees the turn in interest rates may challenge the group's ability to continue earning at the same levels in the MIRA business after record performance fees in the first half and the new equity that was raised in the December quarter.

The impact of low volatility and higher interest rates will challenge the current profit cycle and the broker suggests this is not factored into the current share price. Citi maintains a Sell rating.

The broker acknowledges the track record in buying and owning infrastructure, energy and technology assets but believes the majority of the value being created for shareholders has been driven by capital appreciation, as a result of falling interest rates.

Morgans upgrades estimates on more favourable expense assumptions, incorporates US tax cuts, and moves to Add from Hold. Rising bond yields are a risk but the broker believes these are countered to a large extent by the opportunities presented by US infrastructure expenditure plans.

More Diversity

Investors have traditionally viewed Macquarie as an investment bank but Morgan Stanley now believes, as less than 40% of operating revenues are directly linked to equity and fixed income market conditions, the bank can further reduce this exposure and pursue other growth options.

Morgan Stanley calculates that every -10% decline in revenue from traditional market-linked sources lowers profit by around -7.5%. The broker highlights the group's leverage to segments of structural growth such as infrastructure and energy markets, including renewables. This position should benefit Macquarie Group, particularly in Asia.

Buyback

Macquarie Group has stated that it share buyback remains in place, and the absence of a commencement of the buyback is a trade-off between opportunities to invest versus investing in Macquarie Group stock itself through the buyback. Credit Suisse assumes the buyback is not activated.

FNArena's database shows three Buy ratings, three Hold and one Sell (Citi). The consensus target is $101.19, in line with the last share price. This compares with $97.10 ahead of the briefing. Targets range from $79.50 (Citi) to $110.00 (Credit Suisse, UBS). The dividend yield on FY18 and FY19 forecasts is 5.0% and 5.3% respectively.

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