Rudi's View | Feb 21 2019
In this week's Weekly Insights:
-February Reports: Early Resilience & Big Disappointments
-Share Market Outlook: Support & Threats
-CSLChallenge: Business As Usual
-Rudi On TV
-Rudi On Tour
February Reports: Early Resilience & Big Disappointments
By Rudi Filapek-Vandyck, Editor FNArena
Late in January, I had an inkling we might be staring at an unusually savage reporting season locally throughout February.
Every reporting season generates winners and losers, based upon "beats" and "misses" derived from corporate financials, but this time around share markets have gone through a wild rollercoaster ride, economic data are weak, and weakening, central bankers are reviewing their policy stance, and profit forecasts have been steadily sliding downwards for months.
Judging from the first 100-odd companies in the FNArena universe having reported their financial numbers thus far this month, it would appear the news to date is less bad than feared, if we measure total "beats" versus "misses" or we concentrate on the fact most companies have stuck by a relatively optimistic guidance for the full year.
But market forecasts ex-resources are still steadily sliding south and, on my observation, many companies that release financial reports experience downward pressure on the share price. If not on day one, then most likely in the days following the results release. Surely many an investor -both professionals and retail- has been wondering just how hard it is to successfully maneuver the ins and outs of February this year?
In terms of stockbroker ratings, the bias is very much weighted towards downgrades in recommendations. Total downgrades for the season thus far stand at 44 versus 14 upgrades, and these do not include many more that are not directly related to financial results released.
On Tuesday, when I write these sentences, total tally for the day is seven downgrades against one upgrade to Hold (!). At least on Monday, the balance was three against three (this is an exception though).
As far as "winners" are concerned, companies including Magellan Financial ((MFG)), IDP Education ((IEL)), Cleanaway Waste Management ((CWY)), Goodman Group ((GMG)), Breville Group ((BRG)), and Altium ((ALU)) have proven that, this time around, they are not impacted by weak conditions and shaky confidence, instead showing off internal resilience and strong growth numbers, leaving both analysts and shorters scrambling to catch up post result.
Each of these companies will feature prominently on the short list of quality positive surprises at the end of the season.
On the other end, the list of negative surprises is already quite a long one, and growing by the day. Today, Tuesday 19 February, share prices for Blackmores ((BKL)) and Emeco Holdings ((EHL)) are both down in excess of -20%. Yesterday, a profit warning from Bingo Industries ((BIN)) caused that share price to fall by -49%.
Investors have equally not been kind to regional lenders Bendigo and Adelaide Bank ((BEN)) and Bank of Queensland ((BOQ)); the latter issued a trading update, Helloworld ((HLO)), Smartgroup Corp ((SIQ)), Bapcor ((BAP)), Automotive Holdings ((AHG)), Carsales ((CAR)), Challenger ((CGF)), Praemium ((PPS)), and numerous others.
While Healius ((HLS)) proved you can put a different name on a perennially disappointing business, but the underlying operations will still keep issuing profit warnings. Pact Group ((PGH)), can you imagine, has issued its sixth profit warning since May 2017, its second over the past three months.
One pleasant surprise is some retailers are managing to withstand general scepticism, releasing relatively resilient numbers accompanied by cautiously optimistic outlooks; think JB Hi-Fi ((JBH)), Nick Scali ((NCK)), and City Chic Collective ((CCX)). The real question here remains, of course, is it sustainable? What if consumers further tighten their belts? Can online competition be held at bay indefinitely?
Both results from Unibail-Rodamco-Westfield ((URW)) and Vicinity Centres ((VCX)) revealed risks are rising for retail landlords. Equally important: investors bamboozled by an apparent easy yield on offer, but no growth, beware.
As mentioned, early disappointments have come out in spades. They include high quality, long-term sustainable growth companies, and popular market darlings REA Group ((REA)), Carsales, Bapcor, ResMed, Cochlear ((COH)), Transurban ((TCL)), possibly even CSL ((CSL)) – see also further below.
For many of these consistent (out)performers, the pattern from past reporting seasons often means share prices respond negatively to results releases, but they pick up later when the market's attention shifts from short term disappointment to longer term fundamentals. Observe, for example, how shares in REA Group are by now well ahead of where they were prior to the interim report release, despite management issuing rather sober guidance for H2.
Irrespective, market sentiment can be fickle and not always as predictable as history suggests. I for one will be watching these share prices from close distance, also because they still make up the core of the FNArena/Vested Equities All-Weather Model Portfolio.
Combining all of the above, analysts at CommSec have calculated profit growth for ASX200 members that have reported to date averages 7%, which is far from bad, but the average EPS growth would be less as companies pay for acquisitions through issuing extra shares.
CommSec has also calculated average growth in operational costs for these companies is above 9%, which provides a firm indication about one of the key problems that is surfacing this reporting season: companies might still be selling more products and services, but their costs are rising fast.
Rising costs are equally a problem for resources companies, Whitehaven Coal ((WHC)) comes to mind, but at least miners and energy producers are enjoying an upward boost to forecasts because of higher-for-longer prices for their product. Looking into the details thus far, this seems to apply more for miners than for oil and gas producers, at least thus far.
Financials, including banks, are not doing so well. Among industrials, traditional media companies stand out in a negative way, as also illustrated by the profit warning of Seven West Media ((SWM)) on Tuesday.
Deutsche Bank strategists, who have been mildly positively surprised by reporting season thus far, report only about half (50%) of companies reporting have triggered a downgrade in estimates post report against an average of 56% for past reporting seasons.
Citi strategists who had earlier suggested the average growth forecast for the Australian market ex-resources and ex-banks might end in the negative by month's end (from an underlying EPS growth forecast of circa 1.5%), are now suggesting that number could possibly remain above zero.
The average EPS growth forecast for banks has now fallen to only 1% for FY19. For resources companies the growth forecast has increased to an average 13.5%, to be followed by 2% growth for FY20 (but this far out such forecasts are very "rubbery").
For the share market ex-banks and ex-resources the average EPS growth forecast has now shrunk to 1.3% from 1.5% before February. But let's face it, it's early days still, and history suggests the real bad news more often than not hides inside the tail end of the season.
Maybe not this time around. Citi strategists, for one, are growing more optimistic. They have retained their forecast for the ASX200 to end the calendar year at around 6300.
Investors should note FNArena maintains an All-Year Round Australian Corporate Results Monitor, with daily updates throughout the February results season:
For an in-depth review of potential "beats" and "misses" this season:
Share Market Outlook: Support & Threats
The OECD Composite of Leading Indicators, designed to show the status of global economic momentum and turning points in the business cycle, has now fallen for thirteen months straight, to a deeper negative reading in December, the latest update available.
Should investors pay attention, and why aren't financial markets paying more attention, and acting more in line with what the OECD momentum indicator is signalling?
Well, arguably, continuous weakness in the OECD CLI had been one of the factors behind the savage turn in share markets' momentum and direction last year, on top of the realisation that earnings forecasts in the US, and elsewhere, needed a major reset to the downside.
Come calendar 2019 and investors are now taking guidance from the Federal Reserve pausing its tightening, while central banks elsewhere (UK, eurozone, China, Australia, New Zealand, etc) are believed to be ready to reintroduce supportive policies and measurements, if and when necessary.
Watch this space if the negative OECD CLI trend continues for much longer.
As far as corporate profit growth is concerned, it is true the short term outlook is negative in the US, but market expectations are for a major rebound in the second half of the calendar year.
Add continued optimism about a pending deal between the Trump trade deal negotiators and the Chinese regime, and there seem to be plenty of reasons for investors globally to ignore those pesky economic indicators, which, if anything, seem to confirm the global economy late in 2018 did experience quite the noticeable deceleration in spending and momentum.
Don't be surprised if financial markets continue to ignore the many calls about short term overbought momentum and time for a retreat in share prices for a while longer.
In fact, in light of the events post mid-September last year (to the downside) and post Christmas (to the upside), I think financial markets globally have done their utmost best to make a mockery out of "experts" trying to predict what might happen next.
There is an old saying that ultimately, financial markets are there to keep investors humble. I don't think it's a big stretch to conclude many an investor has been humbled over the past six months or so.
Just about everybody except Magellan Financial's Hamish Douglass, I feel inclined to add, a little bit tongue-in-cheek.
Global bond markets are now offering lower yields, meaning government debt the world around is back to being priced for slower growth ahead, and still no inflation. This too, for the time being, is supporting equity markets.
Thus in a general, macro sense the general context has quickly returned positive for equities, which is why the ASX200 is trying to re-conquer the 6100 mark on Monday (hands up, who had predicted this at the start of the year?), but on a micro level, the slowdown that is apparent from economic indicators and global bond markets is having a major impact on individual companies.
This is why the first half of the local reporting season month that is February has been so tricky for many an investment portfolio (see also above).
Returning to the economic signals, it is easy to see why the more bearish inclined investors are jumping up and down predicting much lower equity markets in due course. The aforementioned OECD CLI hasn't shown a negative stretch of its current length (13 months in succession) in 2.5 years.
Year-on-year, the index is down -1.3%, which is the most negative read since July 2009, when quantitative easing was helping economies climbing out the quagmire of the GFC. Not making matters any less worrisome, is the observation that 95% of countries included are now contracting on a year-on-year comparison, marking the worst geographic breadth since May 2012, when Europe was on the verge of imploding.
What is most remarkable, however, is that one year ago closer to 80% of countries were still enjoying an expansion in their CLI. A big thanks to Glushkin Sheff's David Rosenberg for putting together these quick milestones. No wonder the world got into a sudden shock last year; the reversal in underlying momentum has been nothing short of phenomenal.
Equity markets might be broadly supported within the current context, there is good reason not to allow one's self to become overly complacent, however. As pointed out by Citi's US strategist Tobias M Levkovich last week, thus far the weakening US economy had been offset by the fact that lending standards were holding up.
Not any more, if we rely on the most recent senior loan officers' survey, which revealed quite the dramatic decline in commercial and industrial credit conditions.
Typically, this SLO Survey leads human, working capital and physical investment by nine months. Therefore, if the February 4 update is now indicative of a new, deteriorating environment for US credit, industrial activity might turn out rather soft later in the year, and this contrasts with current analysts' forecasts, which are partially underpinning supportive sentiment.
Summarising all of the above, I'd say it's probably both too late and too early to get spooked by the rapid loss in momentum for the economy in the USA and globally, but it's at the same time inappropriate to extrapolate events and share market moves during the first seven-eight weeks of the fresh calendar year indefinitely into the future.
CSLChallenge: Business As Usual
In January I launched the CSLChallenge, see for more info here:
In recent days I received questions from eager shareholders whether they can expect an update from my hand any time soon, now the company has publicly released its interim financials. I did promise I would provide regular updates on the company, also including sector peers Cochlear ((COH)), disappointing investors on Tuesday, and ResMed ((RMD)).
To go straight to the core of the matter: CSL's interim performance was solid, yet not as good as many were expecting, and while guidance for the full year has been tightened towards the upper end of the prior communicated range, some of the short term traders were positioned for something better.
Hence there was only one way to go for the share price, and that is down.
The underlying market disappointment with the published numbers is probably best illustrated by the observation FNArena's consensus price target for the shares has fallen to a smidge below $204 from near $211.50 ahead of the market update.
Had this occurred in August last year, when CSL shares were changing hands for $230, last week's earnings miss would have led to a severe share price shellacking. This time around, however, a few dollars were shaved off, and that was it.
For those investors who joined the CSLChallenge and get restless and uncertain by these events, I suggest you stop listening to the small army of doom & gloom forecasters, of which a few have tried to give me a hard time via Twitter even before the result was out, and simply seek comfort in the fact this is not the first time CSL has missed analysts expectations.
These things happen. Leading a global biotech company such as is CSL is quite the complex endeavour, and there are challenges, and changes, and unforeseen circumstances on a near daily basis.
On occasion, such events put pressure on the share price in the short term. Longer term, however, it is the quality of the operations, the company's track record and reliability, and the inner strength of the business that will continue supporting the share price.
I note, for example, a change in sentiment at Deutsche Bank (Hold, price target $198) where the analysts were disappointed the financial performance of CSL's core business (Behring, plasma) had not been stronger in the six months to December. That feeling of disappointment seems to have disappeared since competitor Shire (owned by Japan's Takeda) released its quarterly sales report.
Now the overruling view at Deutsche Bank is that CSL's performance wasn't so bad at all. Shire is believed to have lost market share to CSL, with the latter's Haegarda sales outperforming Shire's competing product Cinryze.
The about face at Deutsche Bank firms my view the disappointment from last week's interim results should not linger for long. In an overall environment where most companies in Australia, outside resources, find it extremely hard to grow profits, and in particular to continue growing profits in the face of rising headwinds, CSL's ongoing profit growth remains a jewel in the Australian share market crown.
It is only a matter of time before this again translates into a rising share price, of that I remain convinced.
Rudi On TV
My weekly appearance on Your Money is now on Mondays, midday-2pm, but due to the February reporting season I shall remain absent both on Monday, 18th February and on 25th February.
Rudi On Tour In 2019
-ASA Inner West chapter, Concord, Sydney, March 12
-ASA Sydney Investor Hour, March 21
-ASA Toowoomba, Qld, May 20
-U3A Investor Group Toowoomba, Qld, May 22
-AIA Adelaide, SA, June 11
-AIA National Conference, Gold Coast, Qld, 28-31 July
-AIA and ASA, Perth, WA, October 1
(This story was written on Monday and Tuesday 18-19 February 2019. It was published on the Tuesday in the form of an email to paying subscribers at FNArena, and again on Thursday as a story on the website).
(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions. All views are mine and not by association FNArena's – see disclaimer on the website.
In addition, since FNArena runs a Model Portfolio based upon my research on All-Weather Performers it is more than likely that stocks mentioned are included in this Model Portfolio. For all questions about this: firstname.lastname@example.org or via the direct messaging system on the website).
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Paid subscribers to FNArena (6 and 12 mnths) receive several bonus publications, at no extra cost, including:
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– Make Risk Your Friend. Finding All-Weather Performers, December 2014 (The follow-up that accounts for an ever changing world and updated stock selection)
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(Do note that, in line with all my analyses, appearances and presentations, all of the above names and calculations are provided for educational purposes only. Investors should always consult with their licensed investment advisor first, before making any decisions.)