In Brief: Lithium, Retail & US Debt

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Lithium merger may prompt industry consolidation; preferred lithium stocks; Amazon’s threat to Aussie retailers & the US debt negotiations.

-Will the Allkem merger prompt further industry consolidation?
-Wilsons' preferred lithium exposures 
-The threat posed by Amazon to local retailers
-US debt limit compromises may bring forward rate cuts

By Mark Woodruff

Will the Allkem merger lead to further industry consolidation?

Following the announced merger of Allkem ((AKE)) and US-based Livent Corp, Wilsons anticipates consolidation will become an ongoing theme for the Lithium sector globally.

The new merged company will become the third largest lithium producer globally and have exposure across the spectrum of spodumene, carbonate, hydroxide and specialty lithium chemicals.

Scale is needed across the industry, in the broker’s view, to meet de-carbonisation and energy transition needs, and the merger may prompt increasing interest from traditional mining houses that have been reluctant to invest in the space.

The almost complete lack of presence from major miners to date is because the lithium market lacks size, explains Wilsons, something the bigger players prefer so they may utilise strong balance sheets, which provide a key point of differentiation.

Smaller markets such as lithium also screen poorly because large-scale additions to supply can have an outsized impact on market dynamics, which often presents an unacceptable risk, explains the broker.

As the industry “grows-up”, Wilsons expects this situation will evolve as certain key strategic advantages accrue from achieving scale. These include diversification of project risk and more cost-effective access to capital.

Scale also allows greater access to early-stage exploration opportunities, notes the analyst, and broader technical capacity to pursue and develop them.

Wilsons on the Lithium sector and preferred stocks

This week, Wilsons initiated coverage on the Lithium sector and five individual stocks. 

The broker’s view of the industry may be best summarised as follows: “we remain principally focussed on the longer-term structural thematic drivers and are confident that the low-carbon energy transition will drive expected compounding deficits in supply over the coming decades, which will underpin robust pricing over the longer term."

Wilsons expects lithium prices will exceed consensus estimates because most forecasters are reverting to long-term incentive price-driven forecasts, which is totally unsuited for application to the lithium market at present.

Before such a forecasting technique is adopted, markets must be in long-term equilibrium, explains the analyst. It’s thought even those with a bearish stance wouldn’t consider lithium supply/demand is even remotely close to attaining equilibrium over the next 5-10 years.

From stocks under its research coverage, Wilsons maintains its preference for Leo Lithium ((LLL)) and Atlantic Lithium ((A11)).

The broker also has an Overweight rating on ioneer ((INT)), while Liontown Resources ((LTR)) and Core Lithium ((CXO)) are assigned Market-weight status.

To find the broker’s newly-set 12-month target prices for these companies, please refer to today’s Broker Call *Extra* Edition on the FNArena website.

The threat posed by Amazon to local retailers

Should Amazon Australia attain metrics in the long term similar to those already achieved in the UK and the US, it would become the fourth largest retailer behind Woolworths Group ((WOW)), Wesfarmers ((WES)) and Coles Group ((COL)).

Having raised this possibility, Jarden is cautious on companies with exposure to household goods such as JB Hi-Fi ((JBH)), Harvey Norman ((HVN)), Nick Scali ((NCK)), Kogan.com ((KGN)) and Temple & Webster ((TPW)), as well as those lacking clear competitive differentiation.

Some small Retail REITS are also likely at risk, suggest the analysts, if they do not invest in distribution capabilities.

A near-term game changer for Amazon in Australia is its Prime service which will open up new markets and impact incumbents with exposure to office, electronics, fashion, house & garden and recreation, explains Jarden.

The broker points out consumers are increasingly citing value as a key driver of engagement with Amazon Australia. 

The value proposition is being driven by free delivery with Prime and the streaming offer, as well as the extensive range and low pricing. Same-day delivery across Sydney and Melbourne is also increasing the total addressable market and lifting customer retention.

Jarden observes consumers are trading down in grocery and delaying big purchases, and Amazon is increasingly becoming the first port of call for price comparison.

Jarden now expects Australian gross merchandise value (GMV) for Amazon will be close to $5bn in 2023, up more than 25% year-on-year, and will account for around 15% of all non-food retail growth. The sub-sector impact on Retail will be most significant across the categories of Office, Grocery and Fashion.

Given the immediacy imperative for Office customers, the analysts expect Officeworks (which accounts for around 5% of Wesfarmers' earnings) will likely be most impacted.

Grocery is expected to suffer most across categories such as health, beauty and baby, while the categories of footwear, apparel and accessories are most at risk with Fashion.

US debt limit compromises may bring forward rate cuts

Oxford Economics currently forecasts the US Federal Reserve will begin cutting interest rates at the beginning of 2024.

Yet this date could be brought forward to mitigate the impact of potential spending reductions to achieve compromise on the US debt limit, suggests Oxford. The economists had recently estimated the US Treasury would be able to manage without a debt limit increase or suspension until mid-to late-July.

However, Treasury Secretary Yellen now suggests the Department may not be able to pay all its obligations as soon as June 1, and Oxford thinks it will be extremely difficult to negotiate a large fiscal package before that date.

Unfortunately, talks earlier this week between President Biden and House and Senate leaders from both parties failed to resolve differences around raising the US$31.4tr debt limit. [A second meeting scheduled for tonight has been postponed – Ed]

Oxford runs the numbers of a hypothetical compromise package through its global economic model.

An assumed reduction in spending of around US$2.4tr (a little more than half the reductions in the House Republican plan) results in around US$200bn of interest savings, but results in a more severe recession than Oxford originally anticipated. 

Under this scenario, the peak-to-trough decline in GDP would rise to -2.3% from -1.5%. The spending cuts would also raise the short-term unemployment rate, which would remain elevated relative to the baseline over the next ten years, explains the economist.

Although a discharge petition has been used successfully only twice in the last 25 years, Oxford notes the potential for a coalition of Democrats and a handful of moderate Republicans to bypass House Republican leaders and act on the debt limit.

Other ways to circumvent the limit include invoking the 14th Amendment, minting a platinum coin, or selling premium bonds with high interest rates, which could raise cash with a minimal impact on public debt, explains Oxford.

There’s also a chance both sides of politics could agree on a short-term debt limit increase or suspension to expire on September 30, the end of the current fiscal year. 

While there are several ways Treasury can avoid a near-term default, Oxford believes lawmakers will try to negotiate a compromise bill first if they are still at a stalemate when the debt limit is at risk of being breached. A short-term increase, or suspension, is considered the most likely scenario in that case.

It’s believed a short-term raise or suspension would most likely run to the end of the fiscal year in September, raising the odds that a government shutdown and a default occur at the same time. 

This approach would give the Democrats camouflage to say they negotiated spending cuts as part of the regular budget process, suggests Oxford Economics, rather than having to make concessions as part of a debt limit deal.

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