The Wrap: Housing, Cash Rate & Wealth

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Weekly Broker Wrap: petrol; infant formula; housing & cash rates; wealth managers; platforms; and childcare.

-Higher refiner margins slightly positive for Caltex and Viva Energy
-Market growth in infant formula slows in China
-Little recovery in new housing and record low credit growth
-More provisions likely for wealth managers
-Margins likely to be squeezed for platforms
 

By Eva Brocklehurst

Petrol

Regional refiner margins rose significantly over the September quarter and UBS notes second half base margins in the year to date are up $3.20/bbl to $6.55/bbl. Reasons for the jump include a decision to permanently shut the Philadelphia Energy Solutions refinery (the company has filed for Chapter 11) and temporary disruption from the strikes on Saudi Arabian oil refineries.

Overall, UBS considers this slightly positive for both Caltex ((CTX)) and Viva Energy ((VEA)). Stronger than expected refiner margins are offset by weaker retail fuel margins. UBS upgrades FY19 net profit estimates by 3-6% for both stocks and prefers Viva Energy for its medium-term earnings upside.

Infant Formula

UBS observes market growth in infant formula in China has slowed while premium and local brands are outperforming. Margin differences between channels are narrowing and the cost to operate online is rising.

Recent feedback suggests some de-stocking pressure in the daigou channel (purchases made locally for sale in China) but consolidation is likely to have a positive impact on pricing in the long-term. Overall, the broker came away from a meeting with Chinese operators more cautious about the outlook for the international mass market and more positive about premium and local brands.

The broker expects near-term volume will remain challenged and competition will increase. Meanwhile, the regulatory focus is on quality and safety and recent changes appear to be having an impact.

China's National Development & Reform Commission has announced it will strive for over 60% self-sufficiency for the infant formula market. UBS envisages local Chinese operators with strong brand positions and clear multi-brand channel strategies are best positioned followed by international premium brands such as a2 Milk ((A2M)), Danone and Nestle.

Housing & Cash Rates

Residential building approvals dropped -1.1% in August to a low not seen for more than six years. On the positive side, UBS notes, the value of non-residential building approvals has rebounded sharply, likely reflecting a lumpy public sector, such as the case with hospitals.

Despite a recovery in auction clearance rates in September the recovery in house prices is mainly driven by Sydney and Melbourne. The number of home sales have still fallen to almost the worst on record and around the lowest level in 23 years, the broker points out.

Morgan Stanley agrees volumes remain low and are unlikely to recover quickly. Current availability of credit is not sufficient to cause an acceleration in prices and turnover and this is why the broker's key indicators are not suggesting a sustained bounce in the housing market.

Moreover, given the slump in building approvals and the lag to construction, activity is likely to decline over the next 12-18 months, even though prices have picked up. This suggests to Morgan Stanley there are broader implications for jobs growth and economic activity. Loan approvals will be an important leading indicator to watch for housing market conditions, the broker adds.

UBS argues, with little recovery in new housing and record low credit growth, the Reserve Bank of Australia is likely to cut official cash rates further. The broker was a little surprised at how much the central bank strengthened its easing bias in the statement accompanying the October reduction in the cash rate to 0.75% and expects the next -25 basis points reduction will now be in November or December, not February 2020 as previously pencilled in.

On face value, the recent new macro model from the RBA implies that a 0.5% cash rate over the next few years would likely fall short of achieving the 2-3% inflation target band, Goldman Sachs observes.

The model indicates the RBA would need to implement a -1% cash rate to achieve its unemployment and inflation goals over a 2-3-year forecast horizon. Assuming the central bank refrains from implementing negative rates, the broker estimates an equivalent amount of stimulus could be delivered by lowering rates to their effective lower boundary, i.e. 0-0.25%, and implementing a quantitative easing program of around $200bn.

Goldman Sachs cautions against a literal interpretation of the RBA's dovish implications, given large economic models always have limits and carry considerable uncertainty. Still, it does underscore that risks to its base case for the cash rate to drop to 0.5% are to the downside.

Wealth Managers

National Australia Bank ((NAB)) has announced further provisions for remediation in its wealth management division and JPMorgan notes, relative to planner numbers, this is much higher than the provisions taken by AMP ((AMP)) and IOOF ((IFL)).

The broker's calculations show NAB, Westpac Bank ((WBC)) and Commonwealth Bank ((CBA)) appear to have taken the largest provisions, with IOOF and AMP lagging materially.

While acknowledging the processes employed at the different institutions for remediation may be different and there is a wide range of possibilities, the broker points out there are some risk still relating to class actions or new issues that ASIC could uncover.

Even if ASIC has previously indicated it is comfortable with the wealth managers' processes, ultimately these views may change and it is unlikely that this is the last in terms of possible one-off charges.

Platforms

Assuming HUB24 ((HUB)) and Netwealth ((NWL)) completely pass through the recent cut to official rates, net of administration fees, Macquarie calculates the majority of account holders will be generating negative cash returns. The broker envisages little ability to offset the impact with re-pricing options.

Furthermore, increased earnings pressure is expected as macro conditions present unprecedented complications for operators. The broker reaffirms Underperform ratings for both stocks.

Margins are likely to be squeezed on both sides from the reduction in the official rates and the potential risk faced by platform operators if pooled capital is unable to be classified as retail deposits via the contracts with ANZ Bank ((ANZ)).

Childcare

There were 75 new long day care centres opened in Australia in the September quarter which compares to 92 in the prior September quarter. Canaccord Genuity points out this is a -18% decline and confirms expectations of moderating supply growth.

The data signals supply growth in the year to date is 3.8% and, while meaningful, demand appears to be is more than compensating for this growth. Hence, operators are experiencing improvements in occupancy.

Recent data from the Department of Education and Training shows the number of children attending child care and the hours are increasing. Of the 75 centres, Canaccord Genuity notes 21 are located within 2km of a G8 Education ((GEM)) centre. The broker rates the stock Hold with a $2.45 target.

Only three of the newly opened centres are within a 2km radius of a Think Childcare ((TNK)) centres while Mayfield Childcare ((MFD)) has two. Canaccord Genuity rates the latter two stocks as Buy with targets of $1.31 and $0.95 respectively.

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