Australian Market Summary – 20 May 2016
We had a busy week.
There was news, we had views and there were deals.
Thanks for your patience this week and I hope you all ended it with an understanding for precisely where we were coming from with our new cautious view on share-markets.
Interestingly, this week Macquarie Securities themselves posted a strategy note highlighting how fully-valued much of the Australian market had become.
Their strategists made the interesting observation that the ASX200 forward P/E had only breached 16x FOUR TIMES in the past 25 years and on 3 of the 4 occasions the following 12 month share performance was NEGATIVE – only in the 1999 tech bubble did the market not fall, but we all know how that ended ultimately.
As of today, the ASX200 is trading on 16.4x forward earnings – this is a 15-year high.
Time to pay some attention here.
What we have done…
To give you hard evidence for what we have done and are doing in our managed portfolio’s, the PRIME Australian Equity Growth portfolio has lifted its net cash position to 13.7% (15% limit) & the PRIME Australian Equity Income portfolio holds 11.5% (limit 15%).
We stand positioned to further raise cash as appropriate, but equally feel entirely comfortable with our ability to add to existing positions in Regis Healthcare (REG) and QUBE Holdings (QUB).
Furthermore, we have no doubt that in time, more opportunities will arise – note that Blackmores (BKL) is again knocking on the door of $150 a share (30% lower than its highs) and is a name we think offers substantial medium-term earnings growth.
There will be others.
Market Observations & News…
Oil prices continued to rise this week (+5%) even despite a mid-week wobble in commodities brought about by the US Federal Reserve meeting.
More people are turning bullish on the oil sector by the day, such has been the rapid reduction in high-cost US shale production (the Baker Hughes US rig count has fallen 80% in 18 months).
Oil demand continues to be strong and there are some arguments that suggest the fragile supply/demand balance has already slipped into deficit.
Australian oil stocks haven’t really seen any performance improvement despite the oil price jump, but we feel pretty strongly it will occur.
Since the start of the year, oil prices have risen 30% but the Australian energy sector is largely unchanged relative to the ASX200.
We think Oil Search (OSH) in particular has excellent upside, but we also note that we think Woodside (WPL) has upside to the $29-30 level before we would consider moving this position on.
Oil Search (OSH) acquires Interoil… awesome deal.
Interestingly, OSH today announced the US$2.2bn acquisition of PNG oil explorer Interoil (IOC) in a largely share-based transaction.
The deal is a corker and again demonstrates the enormous potential OSH has from its position as a low-cost, long-lived oil producer in the PNG highlands.
OSH have agreed to buy IOC and then to sell onwards part of IOC’s stake in the highly lucrative exploration permit PRL-15 (which contains the potentially enormous Elk-Antelope gas field) to French oil-giant Total, as well as other IOC exploration assets. OSH will retain part of these assets and ultimately will raise its stake in the Papua LNG project to 29%.
The deal is a ripper because it will ultimately drag together the two competing PNG LNG facilities (PNG LNG operated by Exxon Mobil, in which OSH is a substantial 29% shareholder and Papua LNG which is being developed by Total).
Already today OSH CEO Peter Botten has said there could be $3bn in synergies from more closely aligning the development of the Papua LNG facility with the existing PNG LNG operations.
Sonic Healthcare… positive policy change for pathology
SHL rose 6% this week after weekend news confirmed the government would defer its planned cuts to bulk-bill incentives for pathology testing.
Instead, the government promised to implement policy to control rents charged to the pathology players by owners of ‘collection centres’ and only after this was enacted would it proceed with the incentive cuts.
This is a win for the sector and for SHL since it finally allows SHL to control a substantial portion of its cost base, which for much of the last decade has spiraled out of control as pathology players competed aggressively to win volume from ‘collection sites’.
The stock has risen well over 20% since our January BUY call and whilst we thoroughly admit at $22 you would be forgiven for trimming a little bit, I think the stock is worth $25 in the current market context.
IOOF… lowers guidance
On a disappointing front, IFL offered guidance for full-year 2016 profits that was 3-4% under market estimates.
The stock fell 9% this week.
The company rightly drew attention to lower market levels, which in turn reduces the fee pool on which IFL and other wealth management firms can charge upon.
Another reason for the fall were reports suggesting IFL might seek to raise $300-400m in new equity to fund a bid for the soon-to-be-privatised NSW state financial advisory firm StatePlus.
We would love it if IFL were successful in their bid for StatePlus given IFL’s enviable track record of integrating new assets and will be strong advocates for participating in any raising to accompany a successful acquisition.
Stay the course with IFL here.
Flight Centre continues to weaken…
FLT this week lost further ground, frustratingly falling another 4%. There was no new news, just the ongoing uncertainty relating to currently mixed Australian business conditions as highlighted by QANTAS’ remarks a month ago.
We think concerns on FLT are now well and truly priced into the shares and we feel investors hang on through the release of company results due in August.
That said we admit to feeling more than slightly frustrated here since the stock was up over 20% on our initial BUY recommendation and is now back at break-even in rather rapid time.
Insurance Australia Group… continues to tough it out
IAG remains solid in the current market and is just shy of $6.00.
I am drawing attention to IAG today because like several of our other core holdings, IAG is knocking on the door of our target price.
IAG has paid out over 7% in dividend income (10% grossed up) since our BUY recommendation in early June 2015 and is up 10% in that time too.
The company will have a solid profit result in August, with low cyclone activity a boon for insurers. It will likely continue its run of special dividends then too, but any associated excitement here will be an opportunity to sell the shares.
Without making this a target price, one would think $6.20-6.30 might be a nice level to take profits in the weeks and months ahead.
On the economic front this week…
Following on from the lowest inflation figures in well over a decade, this week saw Q1 Australian wages grow at the slowest rate in 18 years.
Once again we would highlight the global disinflation phenomenon is finally reaching Australian shores and it will be impossible for the RBA not to follow up on its recent interest rate cut with a further reduction, most likely in June after the Federal election.
Lower rates help relative values of assets like property, shares and the like, but we would continue to flag the associated lowering in growth expectations that should accompany these lower rates and it is this factor that is our major concern for share-markets at current levels (as per the recent note).
Employment this month was fine, with recent strength mitigating and a heavy bias in the growth to lower quality part-time employment.
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