The Wrap: Millennials, Mobile & A-REITs

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Weekly Broker Wrap: Millennials; health insurance; housing; supermarkets; mobile; A-REITs; equity strategy.

-Composition of expenditure will change as buying power of Millennials rises
-Morgan Stanley flags rising structural pressure on health insurers
-UBS suggests price war in supermarkets unlikely
-Price competition in mobiles heats up
-Retail landlords facing cyclical consumer
-China taking a greater part of regional equity weighting to reduce Oz weighting
 

Millennials

Millennials, as those born either side of the turn of the century are described, will earn two out of every three dollars of income generated in Australia by 2030, Macquarie estimates, thus their spending power is set to rise. The broker believes this will accompany a large shift in the composition of expenditure.

Millennials stand in stores and compare prices and review products on their smart phones, while friends influence their decisions via social media and, when they are ready to buy, they expect direct delivery.

The broker believes logistics providers of last-mile express business-to-consumer services will be the major winners in an online world. Meanwhile, home ownership is less significant and, with this, the desire for furniture and house-related products.

There is a rising preference for products that are healthier and associated with health and wellness, based on convenience or spending associated with experience. Companies which stand to benefit from these priorities, Macquarie observes, include a2 Milk ((A2M)), Blackmores ((BKL)) and Bingo Industries ((BIN)).

Health insurance is expected to become more discretionary, while the sharing economy and affordability opens up downside risk in personal insurance. Insurance Australia Group ((IAG)) and Suncorp ((SUN)) are likely to be most disrupted given their high exposure to personal insurance.

Oz Health Insurance

While defensive growth underpins the price/earnings premium in Australian health care and insurance stocks, Morgan Stanley observes structural shifts in participation, household budgets and the competitive landscape means they are actually more cyclical than at first glance.

The main drivers of declining participation in hospital insurance include deteriorating affordability and a squeeze on household cash flows, as well as a falling value proposition. The broker suspects the status quo will likely prevail as current trends continue over the medium term.

Morgan Stanley downgrades top-line forecasts and flags rising structural pressures on claims inflation for health insurers. The broker suspects that restoring the Medibank Private ((MPL)) franchise and sustaining nib Holding's ((NHF)) 4% per annum growth is becoming tougher and retains an Underweight rating on the former and Equal-weight rating on the latter.

In terms of hospitals, the broker downgrades Healthscope ((HSO)) to Underweight from Equal-weight and retains an Equal-weight rating for Ramsay Health Care ((RHC)). Morgan Stanley observes Healthscope is more exposed to Australian volume pressures and sub-capacity utilisation versus Ramsay and little FY18 earnings growth is anticipated.

Oz Housing

Deutsche Bank reduces year-on-year growth forecasts for Australian housing starts in FY18 and FY19. The reduced forecasts are a result of weaker multi-family sector expectations because of increased interest costs and increased stamp duty for foreign investors. Affordability remains an issue in NSW particularly. The broker now factors in around a -20% decline to FY19 multi-family housing starts.

Given recent outperformance in the share price, the broker downgrades Reliance Worldwide ((RWC)) to Sell from Hold. The broker likes the exposure to a growing US market but notes the risks from the Lowe's distribution ramping up and the Home Depot ramping down.

Deutsche Bank downgrades Mirvac ((MGR)) to Hold as it is now trading in line with the broker's target. The broker continues to like the company's exposure to office and its high-quality retail assets but reduced expectations for multi-family housing starts have an impact as these represent around 50% of the residential portfolio.

Supermarkets

UBS observes discussion has increased regarding the potential for a price war in supermarkets, after comments by Wesfarmers ((WES)) that its investment in Coles will likely triple in the September and December quarters. UBS believes a price war is unlikely, and believes much of the increased investment is a result of negative operating leverage, labour investment and, to a lesser extent, price.

The broker considers the market is rational and industry margins will bottom in FY17. The broker believes the market is under-appreciating the medium-term margin margin opportunity for Woolworths ((WOW)). UBS forecasts a 5.5% EBIT margin in FY20, which it believes is 50-60 basis points ahead of consensus. The main risk is a resurgent Aldi, outside of an unlikely price war, as Amazon's entry to Australasian fresh food is some way off.

Mobile

Following a period of relative stability, Credit Suisse observes mobile price competition has recently heightened. Vodafone is now offering a SIM-only plan with 18GB of data for $45 a month. Meanwhile Optus has cut its iPhone7 and Samsung Galaxy S8 handset prices on key post-paid plans and is offering a 10% discount on SIM-only plans. Telstra ((TLS)) has not made any major pricing changes at this stage. However, its price premium has blown out and the broker expects it will react.

The broker believes the increase in mobile price competition, in the wake of TPG Telecom's ((TPM)) acquisition of mobile spectrum, may be a sign that carriers are starting to prepare for its entry. The broker expects operators to lock in customers to new plans in order to make life harder bull for TPG.

Credit Suisse also suggests the recent increase in data allowances may be the first stage of a broader shift to unlimited mobile data allowances. The US has already moved to unlimited data and unlimited data plans are becoming more commonplace in Europe.

Macquarie also observes competition is heating up and has pared back growth assumptions for the market for FY18 to 1% from 3%. The broker notes, following a period of investment in network coverage in capacity, Optus is looking to improve share and the difference in the network to Telstra has narrowed.

The broker suspects amaysim ((AYS)) has more leverage to any pressure on revenue per unit given its business model. The broker expects it to introduce more aggressively-priced plans shortly.

A-REITs

Morgan Stanley observes, after a 20-year period of strong growth, retail landlords are now facing a severe cyclical consumer slowdown amidst structural pressure from e-commerce. The broker expects this to accelerate pressure on retailer margins and reduce the demand for physical space.

As store rationalisation intensifies and the pricing power of landlords diminishes, shopping mall operators will be forced to spend more on keeping their centres competitive along with tenant incentives. The broker believes maintenance and incentive capital expenditure is closer to 80 basis points of gross asset value, which is not reflected in cash flow forecasts or asset valuations and envisages risks to asset values on the downside.

Morgan Stanley downgrades Scentre Group ((SCG)) and GPT Group ((GPT)) to Underweight. GPT is mainly downgraded on valuation after outperforming retail peers by 10% in the year to date. The broker generally prefers to combine any retail exposure with office, industrial and, even residential. Hence, Mirvac is its preferred stock in the sector.

Strategy

Credit Suisse believes Computershare ((CPU)) and Macquarie Group ((MQG)) will benefit from the opening up of China's capital markets. However, large stocks listed in Australia are likely to be relative losers, as they have a greater proportion of passive investors on their registers that are set to follow the changes in regional benchmark weighting. MSCI has announced it will now include a tiny portion of the US$7.7tn China's A-share market in its indices.

Initial effects in Australia will be minimal but as China's equity weighting in the region grows Australia's is set to fall. By 2030, the broker forecasts the Chinese and Hong Kong equities will make up almost 50% of the regional benchmark as opposed to 30% now. The weight of Australian equities are set to fall to 6% from 12%.

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