The Wrap: Banks, Media And Seasonal Tactics

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Weekly Broker Wrap: Commonwealth budget and banks; Amazon; media; Morgans' seasonal tactics.

-Bank levy proposal triggers downgrades to recommendations across major banks
-Increased regulatory oversight remains a weight on banks
-Media reforms expected to support NEC, SWM, SXL and HT&E
-Outdoor media data augurs well for APO and OML
-Opportunity exists amid traditional seasonal weakness in May-June
 

By Eva Brocklehurst

The Australian government has announced the introduction of a bank levy in its 2017 budget. Treasury estimates the levy will raise a $1.6bn net tax, which Macquarie estimates will take -4-5% off major bank earnings.

The levy will apply to those with licensed entity liabilities of at least $100bn from July 1 and be calculated quarterly. In conjunction, the ACCC will undertake a residential mortgage pricing inquiry until June 30, 2018. This supports a view, in Macquarie's opinion, that future re-pricing initiatives will be more challenging to implement.

The broker has become increasingly cautious about the sector in recent months, given the subdued earnings outlook and full multiples. This latest element put some further pressure on the outlook. The main upside risk is if the changes that the government has announced are watered down.

Macquarie downgrades recommendations across the sector, reducing Commonwealth Bank ((CBA)) and National Australia Bank ((NAB)) to Underperform and Westpac ((WBC)) to Neutral.

Citi observes the new tax is equivalent to 5% of the combined largest five banks' profits. Measures to offset the levy may involve asset or liability price adjustments but the broker suspects the review into competition in the banking system will make the task of recovering the cost of the levy more difficult. The government has also introduced increased oversight of bank executives and measures to increase competition and fairness.

Most of the government's proposals are expected to have a negative impact on profitability and competitive position of the five largest banks and Citi reiterates Sell ratings on the major banks with the exception of ANZ Bank ((ANZ)), for which it retains a Neutral rating. The broker believes major bank share prices underestimate the extent of industry growth and the profitability challenges and this underscores its Buy rating on Bank of Queensland ((BOQ)).

Citi observes, for two decades, the major banks have relied on strong lending demand to drive revenue and profits, and growth has now noticeably slowed. Falling net interest margins also provided a double whammy in recent results. Meanwhile, regulatory actions are being designed to slow consumer lending growth further.

Morgan Stanley agrees the major bank stocks are not pricing in earnings downgrades or an increase in regulatory oversight and retains a negative bias towards the majors. Collectively, Deutsche Bank agrees the measures appear unusually harsh. Given ANZ has a relatively large balance sheet but more foreign deposits and is less profitable, the broker suspects it will be impacted the most.

The main issue for the sector, Shaw and Partners contends, is what the Australian Prudential Regulatory Authority does to slow house price growth and the flow-on effects for broader consumption. The broker's analysis suggests interest rates need to rise 150-200 basis points to cause a nationwide correction in house prices. Yet, since late last year, rates on interest-only investor lending have increased just 50 basis points so house prices are not expected to fall.

The broker expects the banks, if history is anything to go by, will quickly pass on any tax to customers and label it as a new federal government tax. The broker also expects APRA to release a paper in the next six months outlining what "unquestionably strong" means for capital efficiency.

Amazon

Citi has now incorporated the entry of Amazon into its base case for JB Hi-Fi ((JBH)) and Harvey Norman ((HVN)). Analysis of the US, UK and German retailer performance around the Amazon entry and price differentials, results in downgrades to long-term earnings forecasts for JB Hi-Fi of more than -40% and Harvey Norman of more than -30%.

The broker downgrades JB Hi-Fi to Sell and reduces the target by -35% to $18.50. A Sell rating is maintained for Harvey Norman and the target reduced by -33% to $3.20. The broker's proprietary survey indicates Amazon is 15% cheaper than Australian retailers across three major categories.

However, this is not necessarily a terminal decline for retailers, as margins typically begin to recover five or more years after Amazon launches its Prime market. The broker also expects the electronics industry will consolidate further as store footprints are rationalised from the current overstocked position.

Media

The Commonwealth government proposes to abolish television licence fees and introduce a new spectrum fee based on the number of transmitters versus revenues. New gambling advertising rules are also being introduced, banning advertising during prime time – siren-to-siren — in sport.

Measures are also being introduced to support Australian content and the government will push to abolish the two-out-of-three media ownership rule. The reforms are expected to be introduced by an integrated legislative package while gambling restrictions are expected to commence in March 2018.

UBS expects both Nine Entertainment ((NEC)) and Seven West Media ((SWM)) should experience a lift in net profit on the changes although the timing and implementation is still uncertain. The measures are positive for broadcasters, in Macquarie's opinion, given the scope for material savings on licence fees.

The broker also believes the impact from gambling advertising reforms may have been worse if restrictions were not limited to before 8:30pm. Moreover, media ownership changes were stalled in the Parliament previously so passage is not guaranteed.

The broker estimates the proposed changes would drive earnings and valuation for Nine Entertainment and Seven West Media in the range of 10-15% and for Southern Cross Media ((SXL)) and HT&E ((HT1)) – formerly APN News & Media – in the range of 3-6%.

Outdoor Media

UBS observes the outdoor media sector has returned to form, with bookings up 10.8% year-on-year in April. Divisional analysis suggests roadside billboard revenues lifted 4% while roadside "other " which includes street furniture, taxis and bus/tram externals was up 8%. Digital, as a proportion of total outdoor revenue, was 44.1% versus 36.6% a year ago.

The broker observes industry growth appears to be weighted towards retail in the month, a reversal of trends witnessed in the prior month. The broker reminds investors that APN Outdoor ((APO)) does not have retail exposure but the offset could be its greater share in roadside billboards during the month.

Canaccord Genuity notes April is traditionally one of the quieter months for outdoor revenue yet the strong retail performance should benefit oOh!media ((OML)), which has a strong position in retail.

The broker warns about reaching too many conclusions on a single month's data but, with roadside billboard revenues growing only 4% in the month, this needs to accelerate to justify the capital applied to digital billboard assets. Roadside "other "produced its first month of positive growth since December and this supports  APN Outdoor's upbeat comments regarding Adshel at its AGM, Canaccord Genuity suggests.

Seasonal Tactics

Morgans notes Australian shares display material seasonal weakness in May-June, underpinning the old adage for investors to "sell in May and go away". Several contributors are the cause, such as seasonal commodity weakness, selling to offset taxable income and cleaning up of portfolios ahead of the end of financial year, as well as uncertainty surrounding the federal budget at this time.

The broker does not believe this should alter the investing strategy of long-term investors. Nevertheless, ASX industrial stocks appear toppy at current prices so the broker is directing a more tactical approach and, amid seasonal weakness, where there is no change to company fundamentals, suggests opportunity exists for investors.

The broker believes it conspicuous that industrials have ignored the recent resources correction and are close to all-time highs. The broker suspects the resources correction has arrived early and there is now strong value in preferred names.

Resources to accumulate include BHP Billiton ((BHP)), Oil Search ((OSH)), OZ Minerals ((OZL)) South32 ((S32)) and Rio Tinto ((RIO)). Industrial stocks the broker is happy to buy now include Bapcor ((BAP)), Orora ((ORA)), APN Outdoor and Aveo ((AOG)).

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