May In Review: Banks and Resources Weigh

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The ASX200 lost -2.5% in May after the Reserve Bank continued to raise interest rates and China's reopening momentum appeared to stall.

-The ASX200 lost -2.5% (total return) during May
-Materials and Financials fell, while Technology gained
-Australian bond yields rose after another RBA cash rate increase
-Growth surpassed Value, while mid caps outperformed
-Commodity prices fell across the board
 

By Mark Woodruff

The ASX200 lost -2.5% (including dividends) in May as the Reserve Bank’s hawkish tone resumed, concerns remained around the US debt ceiling and Chinese manufacturing figures were weaker than expected, with reopening momentum continuing to disappoint.

The Australian index compared favourably to an -8.2% fall in China but underperformed the -0.1% loss for the MSCI Developed Markets Index, while the S&P500 in the US gained 0.4% in local currency terms.

Australian 10-year bond yields rose by 26bps to 3.60%, after the cash rate was increased by 25bps to 3.85% at the RBA’s May meeting, when 22 out of 31 economists expected no change, according to UBS.

The April (inflation) CPI print of 6.8% year-on-year negatively surprised, and the share market had its largest daily fall of -1.6% for the month in reaction. Otherwise, activity was relatively subdued in May, points out Morgan Stanley.

US yields also rose by 22bps to 3.64% on expectations of a continued aggressive rate hike path by the Federal Reserve, after another 25bps rise in the key federal funds rate during May.

Macquarie notes the futures market is pricing a 22% chance of an RBA hike in June though feels the central bank has already hiked enough to slow inflation, and there is increasing risk of raising rates too far given the lagged effect of policy on the growth cycle.

Technology gained 11.6% and was the only sector to add any meaningful value in May, while Materials and Financials were the largest detractors of performance.

The Technology sector has been rising with US technology stocks, explains Macquarie, as investors rotate to companies that may have a better chance of delivering growth in the face of a macroeconomic slowdown.

Multiple trading updates from small cap retailers during the month signalled ongoing weakness in consumer spending. Consumer Discretionary lost -6.2% and was the worst performing sector, with sector heavyweight Wesfarmers ((WES)) losing -8.3% for the month.

Gold stocks also underperformed largely due to the rise in bond yields and a stronger US dollar. The underperformance also follows a strong performance earlier in 2023, points out Macquarie.

The Small Ordinaries Index lost -3.3% in May, with Technology adding the most value for the month, while Materials and Discretionary detracted the most. In a similar trend to April, observes Morgan Stanley, mid caps outperformed large and small caps in May.

Mid-cap Resources was the best performing macro index for the month, though more broadly, Industrials outperformed Resources across the size/macro indices, with mid-caps being an exception.

Growth outperformed Value by 2.1 percentage points in May, largely driven by the strong returns from Technology stocks and weakness in Resource shares.

There was an even larger performance gap of 9.1 percentage points in favour of Growth in the US market, where stocks have now risen 14.6% in the last six months.

Macquarie puts this outperformance in perspective, by noting US value stocks are down -7.4% over the same period as investors are increasingly worried about a slowing cycle. Moreover, an expectation of lower bond yields is more supportive of growth stocks.

Globally, Value has now surrendered leadership to Growth over a rolling 12-month period, notes Morgan Stanley.

At a stock level, CSL ((CSL)) and Xero ((XRO)) had the greatest positive impact on performance, notes Morgan Stanley, whereas value was lost through BHP Group ((BHP)), followed by National Australia Bank ((NAB)) and Wesfarmers.

Commodity prices fell across the board through May.

Brent Oil fell by -US$6.00 to US$73.54/bbl, as concerns continued around Chinese oil demand after a weaker than expected Chinese manufacturing PMI in May, explains UBS.

Iron ore prices fell by -US$5 to US$100/t on seasonally weaker demand and prices, observes the broker, while gold prices fell by -US$30.10/oz to US$1,952/oz on a stronger US dollar and rate hike expectations.

UBS believes a 'rate plateau' by the Reserve Bank will keep equities stuck in a range and cautions valuations of the most defensive stocks on the ASX are back at covid era extremes.

Moreover, current cash weightings suggest equity managers are unconvinced about the market and the current bias towards holding gold exposures highlights risk aversion and uncertainty.

ASX100 Best and Worst Performers of the month (in %)

ASX200 Best and Worst Performers of the month (in %)

ASX300 Best and Worst Performers of the month (in %)

ALL-TECH Best and Worst Performers of the month (in %)

All index data are ex dividends. Commodities are in USD.

Australia & NZ

The World

Metals & Minerals

Energy

Australian banks

The average major bank total shareholder return of -4.3% in May underperformed the -2.5% loss for the ASX200.

Relative to the ASX Industrials ex Banks, the major banks are cheap versus the average since 2010, points out Morgan Stanley, yet, relative to bonds, they are expensive compared to the average since 2010.

Based on broker consensus forecasts, the average major bank one-year forward dividend yield is around 6.2%, which compares with a post-2010 average of circa 6%.

During May, National Australia Bank lost -7.1%, while Westpac ((WBC)), CommBank ((CBA)) and ANZ Bank ((ANZ)) lost -4.9%, -2.6% and -2.6%, respectively.

Among the smaller banks, Bendigo & Adelaide Bank ((BEN)) gained 0.6%, while Bank of Queensland ((BOQ)) and Judo Capital ((JDO)) lost -2.4% and -6%, respectively.

Historically, an RBA pause tends not to have a large impact on the banks' price earnings multiples, notes Morgan Stanley, but rate cuts usually drive a material re-rating.

On the flipside, the risk of a further de-rating would increase, in the broker’s view, if expectations shifted higher for the RBA's cash rate.

REITs

The REIT sector provided a total return of -0.35%, while the ASX200 Property Accumulation index lost -1.8% in May, outperforming the -2.5% loss for the ASX200.

Goodman Group ((GMG)) was the largest contributor to returns in May, while Vicinity Centres ((VCX)) was the biggest detractor from performance.

Outperformers in the month included HMC Capital ((HMC)) which gained 8.4%, Centuria Capital ((CNI)) 4.1%, Waypont REIT ((WPR)) 2.3%, HealthCo Healthcare & Wellness REIT ((HCW)) 1.9% and Region Group ((RGN)) which gained 1.6%.

Underperformers included Vicinity Centres which lost -11.2%, Rural Funds ((RFF)) -9.1%, Growthpoint Properties Australia ((GOZ)) -7.3%, Dexus ((DXC)) -7.1% and Scentre Group ((SCG)) which lost -5.9%.

Up until the end of May, year-to-date outperformers included Stockland ((SGP)) which has gained 17.4%, Goodman Group 13.1%, National Storage REIT ((NSR)) 8.6%, Mirvac Group ((MGR)) 8.0% and Centuria Capital which gained 5.0%.

Year-to-date underperformers include Rural Funds which has lost -24.1%, HealthCo Healthcare & Wellness REIT -17.9%, Charter Hall Social Infrastructure REIT ((CQE)) -12.6%, Dexus -10.7% and Region Group which has lost -7.4%.

The consumer is holding up better than UBS feared, evidenced by flat month-on-month Retail Trade turnover for April from the Australian Bureau of Statistics and growth in national turnover of 4.2% year-on-year.

However, the broker believes the large-cap mall REITs are beginning to weaken. It’s felt the consumer outlook is challenging with risks skewed to the downside, and caution is warranted for both Scentre Group and Vicinity Centres.

Overall, UBS notes the REITs sector is currently trading on a -10.4% discount to its blended valuation price targets.

Foreign exchange

The US dollar Index (DXY), a measure of the value of the US dollar relative to a basket of foreign currencies, increased by 2.6% to 104.3.

The Australian dollar moved lower by -1.7% to US$0.6503.

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