Rudi’s View: August Results Fail To Inspire

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By Rudi Filapek-Vandyck, Editor

Investors are trained to be optimistic and hopeful but if the August reporting season proved one thing it is that hope is not an ideal strategy during times when economies are slowing and household budgets persistently under duress.

On balance, August results proved a rather uninspiring experience that mostly triggered a lukewarm reception from investors. The answer ‘why’ was yet again confirmed by this week’s update on GDP growth locally that, at 0.2% quarter-on-quarter and 1% annualised, printed the lowest outcome for any quarter in Australia since the early 1990s, outside of the covid downturn.

Equally important: consumer spending detracted -0.2% from economic growth in the June quarter (the worst number post-GFC ex-covid) and it was spending by the government, foreign students and visitors that kept the pace above zero.

Economists at Oxford Economics responded as follows:

“Net exports and public demand were the major contributors to growth in the quarter.

“The economy is lacking a clear engine of growth. Tight policy settings have successfully reined in demand, but inflationary pressures are yet to be completely tamed. Income tax cuts and consumer subsidies will aid momentum in the second half of the year. But any improvement in activity will be unspectacular.”

The follow-up from peers at NAB: “We continue to assess that soft growth through H1 will be the trough in growth and look for improving but still below trend growth in H2 contingent on the response to tax cuts and ongoing easing in inflation for household consumption. Overall, we continue to see growth of around 1% this year.”

Corporate results in August have very much reflected that reality. Miners, energy companies and other cyclicals proved the biggest disappointments. Small caps delivered many hits and misses, but more misses as cost increases and the need for more investments put investors’ patience to test.

Conclusion from Morgan Stanley: resources remain trapped in value.

Equally important: the weaker priced laggards failed to live up to hope and expectations, while highly-priced growth champions refused to falter. The latter is best illustrated by the fact WiseTech Global ((WTC)) crowned itself to most valuable contributor for the ASX200 throughout the month, after the banks.

WiseTech is nowadays part of the ASX50 but its index weight hardly exceeds 0.50%, which just shows how tepid most stocks have performed during the month. WiseTech shares did put in a 25% rally on improved margins, new customers and new products and refused to give it back, outside of a small pullback on nervous profit taking.

As is local custom, EPS forecasts weakened throughout the season, as expected, but the truly sobering observation is forecasts for FY25 have shrunk too. In Macquarie’s case, a projected 10% increase has reduced to… virtually zero. Resources are mainly to blame, but they are not the only ones responsible.

Macquarie’s response: “FY25 earnings recovery… aaaand it’s gone”.

Market consensus forecasts are not quite as pessimistic, with forecast FY24 EPS now at negative -4.3% and the FY25 forecast at a positive 4%. The long term average in Australia is circa 5%. It looks like the economic prediction of Oxford and stockbroking analysts are connected at the hip: “any improvement in activity will be unspectacular”.

As also flagged by analysts at JP Morgan during the month: falling forecasts with a share market near an all-time record high makes for an expensive valuation. Too expensive, probably, to be maintained.

Morgan Stanley did the numbers, also taking into account where markets are in the cycle as well as the level of bond yields, and concluded trading on an average forward-looking PE ratio of 17.5x the Australian share market has seldom looked as “expensive” as at the end of August.

On the broker’s assessment, forward multiples for every single sector except Energy at the end of last week were at a twelve months’ high.

No surprise, some technical analysts are toying with the idea the ASX200 might have put in a so-called double top in August, suggesting more weakness ahead but also that we won’t see the index returning to these peak levels anytime soon.

The FNArena Corporate Results Monitor is a reflection of the above. Comprising of more than 350 companies (more updates are in progress) covered by at least one of eight leading stockbrokers, this Monitor is likely the most comprehensive insight available in Australia – with a history dating back to 2013.

Combining financial results with outlook statements and analysts’ receptions of both, the Monitor has established some 36% of all financial updates in August have disappointed, contributing to forecast downgrades, while 28% managed to ‘beat’.

Placed in an historical context, this places August 2024 at the top for ‘misses’ and near the bottom for ‘beats’. It has been rather disappointing, Barrenjoey has concluded. Looking at those numbers, it’s difficult to disagree. Observe also how, after updating 350 companies, the average price target in the FNArena Monitor has hardly moved.

Elevated Prices On Below-Trend Earnings

Having said so, investing is forward-looking and UBS strategist Richard Schellbach has seen “tentative signs that activity levels have already bottomed, and that the prospect of rate cuts over the next 12 months will provide a tailwind for further market gains.”

Schellbach sees the 4% EPS growth that is currently projected as “achievable” but he also sees a major role for the RBA -when will that first cut arrive?- while the key risk for Australia remains further deteriorating economic momentum in China. Can the local economy remain detached from it?

Analysts Andrew Tang and Tom Sartor at stockbroker Morgans equally prefer a more optimistic tone, calling the August results “respectable”, with concerns emerging about elevated valuations versus below-trend earnings.

The Morgans analysts do concede economic momentum might well slow down further and investors should be prepared for more downbeat outlook statements at the upcoming AGMs. Offsetting this concern is the fact central banks are setting the tone for interest rate cuts and these should provide support for equities.

History suggests lower interest rates do support risk assets such as equities for as long as there’s no economic recession on the horizon.

In line with my own observations, Morgans observes share price performances are diverging strongly between winners and laggards which is seen as a signal investors need to be more active and selective in their choices. “Earnings quality, market positioning and balance sheet strength will play an important role in distinguishing companies from their peers”, Morgans concludes.

Strategists elsewhere have equally called for ‘Quality’ over ‘cheap stocks’. As yet again proven throughout August, more disappointments stem from lower-quality, smaller-sized, vulnerable business models. In contrast, stocks including Life360 ((360)), WiseTech Global, Hub24 ((HUB)), JB Hi-Fi ((JBH)) and Breville Group ((BRG)) were all considered fully priced, at the very least, before outperforming yet again during reporting season.

More than 40% of company reports in August triggered a share price response in excess of 5% on the day of release, Morgan Stanley reports, indicating the season has been volatile, even without macro impacts such as the yen carry trade turmoil. The bias has been to the downside as ‘misses’ were punished more severely than upgrades have been rewarded.

Themes From The Season

Barrenjoey has identifed eight themes emerging from the August season (below are those themes formulated in my words):

1.) A relative resilient Australian consumer, but can and will it last?
2.) A structural housing shortage in Australia isn’t by default positive for construction activity in the short-to-medium term
3.) China: how weak and for how long?
4.) Inflation remains an issue, though less so than in the recent past
5.) High rates, and their burden, still feature for many companies
6.) Looks like re-stocking will be for next calendar year
7.) Companies will increase dividends and payouts for shareholders, whenever they can
8.) Investors showing limited patience for corporate turnarounds

With regards to point number 7, larger-than-forecast dividends, and bonus payouts on top in numerous cases, have been one of the stand-out positives this season. Some analysts (Macquarie, Morgans) consider this a positive signal showing corporate confidence in the earnings trajectory ahead.

While this is not necessarily untrue, the corporate culture in Australia commands that shareholders will be offered a sweetener in case of operational disappointment. Investors do not need to look any further than the local banks which yet again surprised through higher dividends in August.

I’d therefore conclude the fact the August season has been an overall disappointing experience is confirmed by the fact dividends, and special payouts, are the stand-out feature from the month.

Data-crunching by Morgan Stanley reveals most upside surprises have occurred through dividends, less so through EPS and even less through revenues.

Analysts at Macquarie make the observation general statements and sentiment were noticeably less optimistic than in February, indicating conditions generally are worsening. This observation is backed up by our own statistics: in February the FNArena Monitor registered 33% ‘beats’ versus 28% ‘misses’.

These numbers were by no means among the favourable ones over the past decade, but they do look a lot better than the outcome from August. Twelve months ago, ‘beats’ and ‘misses’ almost balanced each other out on 29% and 28% respectively, leaving nearly half of all reports to simply meet forecasts.

Let’s Talk Stock Specifics

In terms of individual stocks, Barrenjoey has identified both Brambles ((BXB)) and ResMed ((RMD)) as two outperformers in August that are still worth pursuing. Both share prices have proved remarkably resilient, including through the general turmoil that has yet again showed up in early September.

Barrenjoey also still likes Insurance Australia Group ((IAG)) and Medibank Private ((MPL)) among insurers and Qantas Airways ((QAN)) to play the uneven and polarised consumer spending theme. It is considered too early still for re-stocking plays such as BlueScope Steel ((BSL)) and Reliance Worldwide ((RWC)).

Morgans has highlighted BHP Group ((BHP)), ResMed, Flight Centre ((FLT)), NextDC ((NXT)), Reliance Worldwide and The Lottery Corp ((TLC)) as part of its Best Buy ideas. The latter selection consists of 30 ideas, also including CSL ((CSL)), GQG Partners ((GQG)), WH Soul Pattinson ((SOL)), Treasury Wine Estates ((TWE)) and Rio Tinto ((RIO)).

The full list of 30 Best Buy ideas will be included in next week’s Rudi’s View update on Thursday morning.

Macquarie highlights only 5% of stocks beat on EPS and also enjoyed FY25 upgrades, including Block ((SQ2)), JB Hi-Fi, Telstra ((TLS)) and Lynas Rare Earths ((LYC)). A higher share (8%) of small caps combined beats plus upgrades, including Hub24 ((HUB)), Temple & Webster ((TPW)), Regis Healthcare ((REG)), Service Stream ((SSM)), Perseus Mining ((PRU)) and Sandfire Resources ((SFR)).

Model Portfolio managers at Macquarie worry that the impact from slowing economies might outweigh the benefits from central banks cutting interest rates and have thus added Transurban ((TCL)), James Hardie ((JHX)) and Megaport ((MP1)) while removing Computershare ((CPU)), South32 ((S32)) and Whitehaven Coal ((WHC)).

Based on in-house research into similar conditions going back to the 1980s, Macquarie believes there’s a good chance Technology and gold will outperform in the months ahead. The portfolio retains an Underweight allocation to the banks.

Depending on what happens with general conditions throughout the months ahead -will they favour cyclicals or not?- further re-rating potential for the Technology sector might be limited, argues Morgan Stanley. With this in mind, backing continued execution is critical, the broker argues. Favourite exposures are WiseTech Global, Xero ((XRO)), Rea Group ((REA)), and Car Group ((CAR)).

The latest update for Goldman Sachs’ APAC Conviction List shows Australia remains represented through Qantas Airways, Xero, and Lynas Rare Earths. Woodside Energy ((WDS)) remains included in RBC Capital’s Global Energy Best Ideas. That same Woodside has been downgraded by Citi to Sell.

Jarden sees opportunity in Harvey Norman ((HVN)) and Accent Group ((AX1)), but also believes the market is too downbeat on travel stocks. Favoured exposures are Webjet ((WEB)), Flight Centre and Helloworld Travel ((HLO)).

One sector that is yet again attraction attention for a possible re-rating are A-REITs. Morgan Stanley notes the sector has woefully underperformed international peers in July and August. Sector analysts at JP Morgan are forecasting no more than 1% earnings growth for the sector ex-Goodman Group.

JP Morgan’s preferred large cap A-REITs are Scentre Group ((SCG)), GPT Group, Dexus ((DXS)) and Charter Hall ((CHC)).

JP Morgan’s Emerging Companies research team puts forward Superloop ((SLC)) as most favoured idea, while ARB Corp ((ARB)) is least-preferred due to concerns about margin pressure.

FNArena’s Corporate Results Monitor: https://fnarena.com/index.php/reporting_season/ (with further checks and updates ongoing)

We have also now added a dedicated section to Gen.Ai, the fourth industrial revolution: https://fnarena.com/index.php/tag/gen-ai/

More reading:

https://fnarena.com/index.php/2024/08/28/rudis-view-august-trends-have-darkened/

https://fnarena.com/index.php/2024/08/21/rudis-view-august-paints-a-bifurcated-picture/

https://fnarena.com/index.php/2024/08/14/rudis-view-august-results-early-beginnings/

https://fnarena.com/index.php/2024/08/07/rudis-view-august-results-polarisation-divergence/

https://fnarena.com/index.php/2024/07/31/rudis-view-what-can-august-deliver/

All-Weather Portfolio FY24 Review

The FY24 review for the All-Weather Model Portfolio can be downloaded here:
https://www.fnarena.com/index.php/download-article/?n=DE2A4552-E2C7-4DC7-0A896CE5CF68ACD8

Prior years:

FY23: https://www.fnarena.com/index.php/download-article/?n=DFC11150-CB36-C777-1AA3EDA640E2F5BF

FY22: https://www.fnarena.com/index.php/download-article/?n=DFE7241B-9CD8-61F1-1602C581A8E539C4

FY21: https://www.fnarena.com/index.php/download-article/?n=DFF82691-E53E-3CF5-17A2337D72CDB54F

Video: Why FNArena & All-Weather Stocks

I’ve used my participation to the recent InvestmentMarkets conference to explain how/why FNArena started & what investors get out of it, including research in All-Weathers and Gen.Ai

The video: https://bit.ly/3A1pLuz

FNArena Talks

-Pre-results season interview with Ally Selby at LiveWire Markets: https://www.livewiremarkets.com/wires/rudi-why-csl-could-be-headed-for-500

-Danielle Ecuyer talks with The Australian’s James Kirby on The Money Puzzle podcast:
https://podcasts.apple.com/au/podcast/if-the-market-has-recovered-shouldnt-you-be-bargain-hunting/id1201031401?i=1000664692977

FNARENA VIDEO

Dani and I have put together a video to explain our focus (and enthusiasm as investors) for GenAi, the fourth industrial revolution:

https://fnarena.com/index.php/fnarena-talks/2024/07/15/investing-in-genai-the-fourth-industrial-revolution/

SPECIAL REPORT

Last month, FNArena published a 78 pages Special Report on GenAi, the fourth industrial revolution with lots of in-depth insights, forward projections, and useful links to companies for investors in the Australian stock exchange.

This Special Report remains exclusive for paying subscribers. Download your copy via the Special Reports section on the website.

(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions.)  

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P.S. II – If you are reading this story through a third party distribution channel and you cannot see charts included, we apologise, but technical limitations are to blame.

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