Australian Market Summary (Issue 416) – 9 September 2016

It was a frustrating week for me (just ask poor Mark).

So many things made complete sense and have started to play out precisely as we expected, but then one or two small wrinkles threw the metaphoric spanner in the works to render the week just so-so.

Who’d make a career in investments eh?

At a big picture level, the fragility of Australian share-market valuations have begun to make themselves evident.

The ASX200 is the only major developed market to be down month-to-date in September and has underperformed by 2-3% against major global indices.

Also interestingly, many of the ‘favoured sons and daughters’ of the Australian share-market have begun to unwind from excessive valuations.

I made mention of Commonwealth Banks (CBA) abysmal 2016 performance last week (-17% year-to-date), but digging deeper the likes of Medibank (MPL), Transurban (TCL), SEEK (SEK), CSL (CSL) and Magellan Financial (MFG) have all began to lose some of their premium (or lustre) in the past month or so and this is a good thing.

These companies are all excellent businesses, but their valuations had grown well in excess of their underlying fundamentals.

The respective pullbacks in each of CSL ($120 to $102 in 6 weeks), TCL ($12.50 to $11) and MFG ($26 to $22.50) etc could prove to be neat buying opportunities for us in the weeks and months ahead.

But I would caution against rushing too quickly into buying these dips.

Australia’s economy and with it its share-market, is facing a steeper hill to climb in the year ahead.

High valuations and waning earnings momentum aren’t a potent fuel for share-markets.

The reporting season just gone elicited more than the typical downward revisions to earnings forecasts and the market is still up on the year.

Australian portfolio’s STILL HOLD TOO MUCH IN AUSTRALIAN STOCKS, the majority of which face an indifferent earnings outlook into 2017.

Past performance simply doesn’t necessitate nor entitle a portfolio to do the same in the future.

The year to come will see more interest rate cuts, a slowing in retail demand, an easing in house price momentum, likely mortgage lending curbs, a weaker Australian dollar and more political intransigence.

We are ‘maxing out’ people and when you near maxing out, you save your last bullets (or dollars) NOT FOR the next best, or the second best or third best, but THE BEST OPPORTUNITY.

So what do we like right now?

To give you a guide for where we might go shopping, I thought I would give you a few one-liners to prepare you for the weeks and months to come.

Right now I love – Telstra (TLS) at $5.10 – think of it as a bond here paying you 32c a share in dividends (6.3% fully-franked) for at least the next 4 years. Forget all the negativity you hear about it on the NBN because it’s still long-dated and at $5.10 it is in the price.

Oil Search (OSH) at $6.65 – OSH along with global oil super majors Exxon and Total will sit down in October to discuss how to reap the synergy benefits from merging much of their respective Papua New Guinean LNG infrastructure plans. That’s great news. But more interesting to me is that OSH is now at its lowest relative levels to the ASX200 in spite of a 50% rise in the oil price and continued operational excellence by OSH (reduction in operational cost at PNGLNG)

Blackmores (BKL) – this thing is a volatile little sucker, so it is actually really hard to time ‘the right price’ to buy, but we think around here is great. The simple thinking is the Chinese sales slowdown forecast for the current quarter is a standard de-stock in response to the regulatory uncertainty created by Chinese customs authorities back in March/April. Worst case we think it lasts a few months longer, but either way we think the secular growth trend remains and BKL will again demonstrate significant earnings leverage into calendar 2017.

Mantra (MTR) – love it at $3.10. CBD hotels in Brisbane, Darwin and Perth are a bugbear given the resource sector slowdown, but conversely the groups resort operation is going gangbusters with both the influx of inbound Asian tourism and increased domestic travel with cheap airfares. As a believer in a weaker AUD in the coming 12 months, I think MTR is extremely well placed to benefit from the demand momentum this will create for its network of properties.

What might we want to buy in the future?

Magellan Financial Group (MFG) – am dying to buy back our positions here, but just haven’t found the right time. The group are a terrific play on Australia’s shifting asset allocation towards international equities and a wonderful indirect play on the Australian dollar.

CSL (CSL) – an excellent business with earnings growth of 2x GDP

To be honest, the list is growing now… many of the good businesses got to extremes and with pullbacks now look palatable.

Share price falls don’t make good businesses bad businesses and vice versa, but equally too we want to buy good companies CHEAPLY not simply FAIRLY.

What happened to the economy in August?

Turning to the economy, I actually got quite a shock when I saw the August industry group data this week.

All three (3) of the Australian Industry Group activity surveys for August plummeted – my combined economic survey data fell to just shy of a 2-year low, whilst the employment component dropped to levels last seen in early 2013.

These figures are monthly and volatile, but the drop away in each of the service, manufacturing and construction sectors is indeed notable. New housing orders collapsed during August, café & restaurant activity waned and domestic food & beverage manufacturers saw a material slowing in sales (the latter I am sure is impacted in part by the vitamins sector de-stock).

One swallow doesn’t make a summer, but given my caution around Australia’s economic outlook these figures certainly make me sit up and take notice.

There’s a part of me that thinks there has been a lagged impact on consumption by the baby-boomer generation following on from the shock plans the Turnbull government outlined for superannuation changes.

All of this is worth keeping an eye on.

Regis Healthcare (REG) – another tough week

Guys this is a simple explanation and mea culpa on our timing in REG.

Last Friday saw the government announce more explicit guidelines on what Aged Care providers can charge residents, with a specific reference to ‘capital works’ charges. This news was disappointing since many of the aged care providers had planned to introduce these very charges as a means to offsetting many of the government cost cuts scheduled for the sector in 2018.

We remain confident in REG’s ability to mitigate some of these future revenue pressures via price increases, cost reductions and occupancy improvements, but concede this news was a blow.

For now we remain committed to REG as the high-quality industry player and feel the share price has better days in front of it, but concede our timing here was poor and for that we apologise.

Have a great weekend all.

Footy finals are back, which leaves me with some excitement (go Hawks!), but trepidation as to what on earth I’ll do with my weekends in a month from now!

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