Weekly Reports | Sep 17 2012
By Andrew Nelson
On the eve of the Fed’s QE3 announcement, local brokers were pondering the likely impact such a move would have, as by Thursday afternoon Sydney time the odds were favouring that Bernanke would act. And as we all know by now, act he did.
We start this week’s wrap with some prognostications made by analysts at UBS, who, citing recent weak payrolls and PMI data were more or less confident some form of QE3 would be announced at the FOMC meeting Thursday night, Sydney time. (For more detailed coverage of the Fed’s release, see FNArena’s The Overnight Report from Friday morning).
The broker notes that QE1 and QE2 were quite helpful for global equities and commodity prices, although QE2 was less so given the much lower, GFC inspired starting point QE1 enjoyed. The effectiveness of the latter stages of QE2 was also impacted by what started as a policy-induced slowdown in China and the latest round of the eurozone sovereign debt crisis sparked by issues in Greece. Remember Greece?
Turning back the pages to the US QE moves of yore, UBS notes Mining was certainly one of the industries that outperformed. Given recent underperformance in the same sector, UBS thinks there will be evident upside here from this latest round of US easing. Although, not to the extent seen during QE1. Conversely, Consumer Staples, Health Care and REITs, which are again boasting some pretty steep relative valuations, underperformed during QE1 and the broker thinks we’ll see the same again as QE3 starts to gain some traction.
However, UBS thinks the current strength of AUD will act as a headwind to Australian equity performance. In fact, the broker notes it’s the US’s need for these QE packages that is at the heart of the strong Aussie in the first place. UBS does see somewhat of a silver lining to this issue, as it feels if the AUD does remain resilient during the early phase of QE3, the RBS may well have to jump in with some easing of its own.
Goldman Sachs was also pretty confident of the FOMC outcome, last Wednesday putting out an assessment on the presumed impact QE3 would have on the domestic Mining and Metals sector. Where the brokers vary the most in their prospective assessments comes down to their views on the direction of the AUD. Where UBS sees a strong AUD likely remaining place, Goldman Sachs sees it weakening to benefit of Metals and Mining plays. The latter broker notes that there is less and less talk of the Aussie being a foreign reserve diversification play now that the peak of the capital cycle in the mining boom looks to have passed.
The broker also views these developments as being positive for gold prices, seeing a historically strong correlation with US real interest rates. With Goldman Sachs expecting a 4% annual contango until mid-2014, it then expects rates to turn upwards. This could be pushed out a year, the broker admits, which in turn extends the timing of the broker’s targeted peak in gold prices. Until then, the broker expects to see an annual price decline of 10%.
Now we get tom the meat of it, were the Aussie to weaken and gold to still perform as expected, there is massive upside for gold producers, especially those with AUD denominated production. The broker predicts 18% to 40% earnings increases and 20% to 30% rises in DCF valuations. Goldman Sachs notes this would mean mostly higher earnings that would be delivered in FY15 were interest rate rises be pushed out an extra year.
On the other hand, mineral sands producers and USD denominated companies would see the least amount of upside, given generally lower leverage and a lack of exposure to beneficial changes in currency.
Sticking with Goldman Sachs, the broker also took a look at the iPhone5 launch and the implications it has for the Australian wireless market. One of the key issues is the confirmation the new iPhone will support LTE 1800 (4G LTE), which is a clear win for Telstra ((TLS)), notes the broker. The company still holds the early mover advantage in 4G, while an announced $1.2bn spend in FY13 to sustain its network and extend 4G coverage from 40% to 66% will only increase its advantage over competitors.
There will also be a lesser amount of advantage for SingTel’s ((SGT)) Optus, given it will be offering 15%-20% 4G coverage in Sydney, Perth and Newcastle and Melbourne as of this week. Vodafone Hutchison ((VHA)) will be the clear loser in all of this, with their 4G rollout not likely to begin in earnest until early 2013. Thus, Telstra and Optus will have a 6-month or better head start in terms of device leadership, as they will be offering the two most popular phones around, being: the iPhone 5 and Samsung Galaxy S3 4G. In fact, Goldman Sachs thinks this will be the first time that there will be significant differentiation in handset line-ups between the major Australian carriers.
More bad news for VHA, as these developments will do little to stem the flow of customer’s losses the company has been battling with over the past year, or so. Speeding up the 4G rollout and selling cheaper phones is the only way forward, thinks the broker.
Deutsche sees the new iPhone as being a positive for industry wide stats, expecting that the handset subscriber market will grow at 3% in FY13, driven by iPhone5 launch. Macquarie is also of a similar belief, noting the December 2012 half will be dominated by the iPhone5 and will spark a lift in recontracting rates and also help to increase handset subsidy levels.
Last week also saw some big news is the LNG space, with the NSW Government having released its Strategic Regional Land Use Policy, which analysts at Bank of America-Merrill Lynch believe paves the way for resumption in Coal Seam Gas (CSG) related activities in the state. It couldn’t have come too soon either, thinks the broker, as NSW already imports 95% of its gas requirement, while Queensland LNG projects are set to start up in 2015.
It’s not an easy task that has been set for the state, with BA-ML noting while NSW may well be highly prospective, it is also under-explored and under-appraised because of a the lack of a firm policy direction. Now that this is passed, the broker thinks we’ll see quick work in the Gunnedah basin, which Santos ((STO)) has described as being a world class CSG region. On the other hand, government inclusion has now made CSG development more expensive in NSW and the broker notes the price will, of course, be passed right on to the consumer.
Analysts at Deutsche also chime in with their concerns about the increase in red tape and subsequent expense the new regulation will bring, noting an independent scientific impact assessment on both land and water will need to be undertaken before a developer can even lodge a development application.
On the other hand, Deutsche notes the State’s blanket ban on hydraulic fracturing has been lifted, and royalty levels are set to rise.
Winners? Yes if you listen to BA-ML, who sees the news as a positive for both AGL ((AGK)) and Santos, both of whom are the main reserve holders in NSW.
There was also some important Energy news from across the northern border, with Queensland announcing a plan to raise an extra $1.6bn in revenue over the next 4 years via higher taxes on coal miners. The increase in coal royalties was fairly ill-timed, thinks BA-ML, as it hits a mere day after miners announced cutbacks to deal with falling prices and rising costs.
However, the hike is only targeted at higher priced coal, with coal valued at between $100 and $150 a tonne now subject to a 12.5% tax, which is up from 10%, while coal sold for more than that will attract a 15% royalty, also up from 10%. The broker estimates the Australian companies that will take the biggest hit are BHP Billiton ((BHP)) and Yancoal ((YAL)).
The valuation impact on BHP runs at around $100m on BA-ML’s numbers, while for Yancoal it equates to around a 10% decline given a very low earnings base in 2012. On the other hand, thermal coal players like Rio Tinto ((RIO)) and Newhope ((NHC)) should feel little or no impact, says the broker.
UBS sees a slightly broader impact, noting while thermal coal producers will be impacted less by the new tax structure, both Rio Tinto and BHP will feel it, as they will both be paying more tax under the broker’s newly modelled price assumptions. Still, the valuation hit is less than 1% for either, with margin impact on the EPS line, notes UBS.
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