Australian Market Summary (Issue 402) – 3 June 2016

Australian Market Summary (Issue 402) – 3 June 2016

Another slightly tedious week on the Australian bourse.

Selling ‘Blue Chips’ continues…

The pervasive and central trend continues to be SELLING ‘blue-chips’, with the ASX20 falling -2.3% as against the Small Ordinaries which is FLAT.

Australian investor portfolios, both at an institutional and retail level, remain overweight local Australian shares and are continuing this mass migration from reliance on locally sourced dividend income to a more broader spread of international and alternative equity assets.

Again, the broader realization is that Australia’s largest companies face a far less prosperous future ahead in terms of earnings momentum.

With valuations for the growth outlook on offer looking full, asset allocators like ourselves are questioning the need to take unnecessary risks in Australian equities, if the growth outlook – specifically in the large-caps – looks so anemic.

Let’s remember, our core view remains that of ensuring portfolios do not take unnecessary risk in specifically being big overweight in banks or Australian ‘top-20’ shares.

We also advocate for holding overweight cash here as advised of late.

Hybrid remark

I suggested last week that clients with large overweight positions in Commonwealth Bank (CBA) in particular, consider lightening these positions to make room for increased bank hybrid holdings.

I remain convinced of the merit of this trade and feel sure that several local institutions themselves are using the recent National Australia Bank (NAB), Westpac (WBC) and Commonwealth Bank (CBA) hybrid issuance as a means to swap out bank equity dividends for a safer, less volatile income stream such as the hybrids.

This week the National Australia Bank (NAB) Capital Note 2 issue was heavily sought and has closed significantly oversubscribed.

Regis Healthcare… growth concerns?

REG shares took a beating on Thursday after a broker report suggested market forecasts for future earnings growth were overplayed.

The stock is 10% lower on the week, with the primary catalyst for sellers being the Merrill Lynch analyst report that suggested government aged care funding per person would fall over 10% in the coming 2-3 years, thus rendering the aged-care sector vulnerable to significant margin pressure and hence stagnant earnings.

Given the high P/E multiple ascribed to REG and its associated aged-care peers, the report scared many.

I have to say, that having read the report the assumptions for 2018-19 do look penal. I find it hard to believe the margin attrition will be so significant as to render the growth in bed numbers, the ongoing 5% growth in residential care figures as outlined in the Federal Budget and the inflation in aged-care ‘bed’ prices unable to deliver profit growth.

We retain our optimistic view for REG and though our timing is looking slightly awry, we feel comfortable and confident in the medium-term upside for the stock.

Oil Stocks… lagging the oil price.

The chart below might prove difficult to read, but simply put the higher white line is the oil price in Australian dollars and the lower yellow line is the performance of Woodside (WPL) relative to the ASX200 index.

In the past 18 months the correlation had been tight, but with the recent recovery in oil prices, WPL has unfortunately lagged.

It’s a frustration, but a situation I expect to correct itself sooner than later.

Our preference in the oil space is wholeheartedly for Oil Search (OSH), particularly after news of its $2bn+ Interoil acquisition. However, WPL too looks 10-15% cheap to an oil price deck reflective of $50-60 a barrel.

For this reason we are being patient on WPL, since we firmly believe the oil price fundamentals have turned and that in the coming months WPL can push towards the $29-30 level at which we might re-consider our position.

WPL vs ASX200, WTI in AUD

WPL vs ASX200, WTI in AUD

Woolworths (WOW)… green shoots?

We were encouraged this week by a report from Credit Suisse that showed that on a basket of about 110 grocery items, the WOW basket came in significantly cheaper than Coles.

Further, WOW’s internal customer satisfaction metrics demonstrated a measure of overall in-store experience last month that was the highest in over a year.

We have made a strong case for the WOW turnaround and at the heart of it is re-engagement with its customer base. Getting traffic back through the stores is the single biggest driver, since this will then allow WOW to leverage its unrivalled buying power in creating a virtuous cycle of scale and associated cost reduction.

These small items indicate an encouraging, albeit small, uptick in operational momentum.

On the asset sale side, there were reports this week suggesting BP might be interested in buying the WOW portfolio of service stations for $1.5bn.

In addition to the Masters divestment, bids on which are due early July, we see the sale of non-core assets such as service stations and potentially even parts of the liquor business as a positive in focusing management and board attention on the core food operations.

We remain buyers.

Quick Economic Update

This week saw a few headline surprises in local economic data, with the Q1 GDP jumping +3.1% YoY (slightly ahead of market estimates and the highest in 3 years) and April Building Approvals also strangely strong (apartment construction still).

I don’t tend to pay any attention to GDP figures as an insight into the economy since they are often revised and further they report on activity that was as much as 5 months ago – hence irrelevant.

I do follow the monthly confidence surveys and the monthly activity reports from each of the manufacturing, services and construction sectors, all of which continued their ‘fair-to-middling’ rate of growth in May.

Retail Sales for April rose +3.6% on the year, which is a continuation in the lessening of growth. Imports too are down 5% on last year, which is also emblematic of some household belt-tightening.

Disclaimer:  This information has been prepared by Primestock Securities Limited ABN 67 089 676 068, AFSL 239180 (“Prime”). Prime accepts no obligation to correct or update the information or opinions in it. This information does not take into account your objectives, financial situation or needs. Before acting on this information, you should consider whether it is appropriate to your situation. It is recommended that you obtain financial, legal and taxation advice before making any financial investment decision. Prime is bound by the Australian Privacy Principles for the handling of personal information.

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