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The Wrap: Economy, Consumers And Wealth

Weekly Reports | Sep 15 2017

Weekly Broker Wrap: Economic perspectives; cattle; consumer stocks; banks & resources; wealth managers.

-Those looking for a near-term hike in official interest rates may be disappointed
-Potential downside for net profits of Elders and Ruralco as cattle prices fall
-Opportunities still exist in consumer stocks; Amazon expected to make landfall pre-Christmas
-Macquarie upgrades banks & resources in model portfolio
-Structural changes occurring in the wealth management segment

 

By Eva Brocklehurst

Economic Perspectives

In the wake of the Australian GDP numbers, which rose 0.8% in the June quarter, UBS reiterates forecasts. The broker expects GDP annualised to rise to 3% in the September quarter, albeit briefly, and suggests the pace overstates the reality of momentum and should represent the peak in growth. The broker suggests macro prudential tightening is still to fully impact the housing market, which is consistent with a call of a top for activity and price growth.

Consumption is expected to be weighed down in the coming year by fading household wealth when coupled with higher energy prices. The broker calls a trough in wages because of the minimum wage hike but suspects any pick-up in the months ahead will disappoint relative to the stronger jobs growth.

A new upside risks consists of booming public demand spilling over to private capital expenditure, given a sharp lift in capital expenditure intentions and non-residential building approvals. This comes amid strong business conditions and better global growth which has lifted exports. Overall, UBS suggests those looking for a near-term hike in official interest rates will be disappointed.

Cattle

A correction in cattle prices is underway. Spot prices on the Eastern Young Cattle Indicator have declined since the start of June to $5.50p/kg from $6.55p/kg. The price decline reflects increased supply, following dry weather, a stronger Australian dollar and a decline in the 90CL benchmark price. Wilsons forecasts an EYCI of $5.50p/kg in FY18 and $4.75p/kg in FY19.

All else being equal, this implies downside to the broker's net profit estimates for Elders ((ELD)) and Ruralco ((RHL)) of -2% and -3% in FY18 and -4% and -3% in FY19, respectively.

Under a scenario where the cattle price falls more sharply the broker assesses around -10-15% potential downside to existing net profit forecasts in FY18 and FY19 for both Elders and Ruralco. Both these agency businesses generate commission income on the value of cattle, sheep and wool turnover.

Consumer Stocks

Deutsche Bank believes large share price movements during reporting season have created opportunities in consumer stocks. Both JB Hi-Fi ((JBH)) and Harvey Norman ((HVN)) delivered strong results and upbeat statements but underperformed sharply. Deutsche Bank envisages considerable upside in both, as sales and earnings growth are likely to continue despite price/earnings ratios barely into double digits.

Meanwhile, Woolworths ((WOW)) continues to show strong sales momentum and margin expansion in the second half, but has also underperformed. The broker believes a supermarket price war is unlikely.

The disconnect was further heightened by the performance of both Treasury Wine Estate ((TWE)) and Flight Centre ((FLT)) which provided results which were broadly in line with estimates but performed strongly. Deutsche Bank suspects guidance for longer-term margins is the key driver behind their performance as neither provided definitive FY18 guidance.

Citi suggests Amazon could launch pre-Christmas. The launch is subject to website and logistics testing but a formal launch is expected to occur some time in October. The broker expects Amazon to offer free delivery over a value threshold, with the Prime service to be offered later. Amazon will be buying directly from leading suppliers, holding inventory and setting retail prices.

This increases near-term gross margin risks for retailers, as price will be Amazon's lever. Amazon's strategy to match or be the lowest price and the market could spark a response from incumbent retailers, intent on not being beaten on price during the key pre-Christmas sales. Amazon will target gift categories in the short term given the logistics constraints.

Based on Citi's estimates, the incremental sales impact for the second quarter of FY18 could be around 0.2% of total Australian retail sales. Short term, the impact will be limited in the food, liquor, furniture, hardware and automotive categories. Areas of greater risks include electronics, department stores, leisure, clothing and footwear. The most exposed stocks the broker suggests include JB Hi-Fi, Harvey Norman, Myer ((MYR)), Super Retail ((SUL)) and RCG Corp ((RCG)).

Banks & Resources

Macquarie is raising its ratings on banks and resources to Overweight from Neutral. Miners stood out in the reporting season and, operationally, continue to surprise on the cost side. Marking to market commodity price moves still drives large upgrades. Moreover, cash to assets ratios for the sector have risen to 10% and net debt to equity has fallen to 26%.

A reversal in US dollar weakness poses the most significant near-term risk for the sector's performance, in the broker's opinion. The energy sector has also joined the miners, as earnings are upgraded.

Meanwhile, Macquarie has been running with a Neutral outlook for banks and now believes the valuation appeal of the sector is strong enough to offset the concerns around the political and housing-related risk. Relative earnings momentum is expected to be increasingly supportive for banks. Banks now trade at a 19% price/earnings discount to the market and the broker suggests this is too much, when the relative earnings growth differential is small.

Macquarie adds Commonwealth Bank ((CBA)) and removes Bank of Queensland ((BOQ)) within banks in its model portfolio, adding Mineral Resources ((MIN)) within resources. To fund these moves the broker removes Corporate Travel ((CTD)), Computershare ((CPU)) and JB Hi-Fi.

Wealth Managers

Major wealth operators in Australia – being the four major banks and AMP ((AMP)) – are slimming down wealth and life earnings. Bell Potter has explored the move to sell, part sell, review or exit parts of these businesses. The broker argues this is a structural change, not a cyclical one, and the wealth management landscape of the future will be different.

This comes at a time when the industry funds are ramping up their offerings and marketing budgets to take advantage of the opportunity being presented. Recent data suggests industry funds continue to take market share from public and retail segments, with SMSFs also making small gains.

The broker believes the trends are a major headache for AMP and the business does not have the appropriate strategy in place to combat the trends. Bell Potter has a Sell rating for AMP. In contrast, Buy-rated IOOF ((IFL)) is bucking the trend as its advisor numbers are growing and its market share has been taken to 4.0% in the last six months, with over 1000 advisers in total.

The broker also rates Onevue ((OVH)) and Praemium ((PPS)) as Buy, as these are beneficiaries of this shift to independence through their investment platforms, as well as a shift to outsource more functions from the majors.

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