Weekly Reports | Nov 08 2019
Weekly Broker Wrap: quantitative easing; US presidency & markets; supermarkets; aged care; house prices; and waste.
-Unconventional monetary policy looms closer for the RBA
-Potential for correction in equity markets on change of US president
-Dry goods inflation returning to supermarkets
-Uncertainty limits potential of listed providers of aged care
-Cost issues prevail in Australian waste & recycling
By Eva Brocklehurst
Goldman Sachs suspects the Reserve Bank of Australia may need to engage in unconventional monetary policy to achieve its inflation and unemployment goals. The broker expects the RBA will cut the cash rate once more, probably in December, to 0.5%.
If conditions fail to improve in 2020 then a joint easing of the cash rate to 0.25% and a quantitative easing program of $10-20m per quarter is envisaged. Other measures such as direct lending to banks and/or negative cash rates are less likely, in the broker's view.
Quantitative easing is likely to kick off with the purchase of Australian government bonds and a focus on medium-term issuance, 3-5 years, given this matches the duration of bank wholesale funding costs. Goldman Sachs assesses the risk lies with quantitative easing being less effective in Australia vs other developed economies.
ANZ Bank agrees attention is turned to quantitative easing as a policy tool but does not expect the RBA will act in 2020. The analysts suggest the RBA is likely to take some time before deciding quantitative easing is necessary but its first choice is likely to be government bond purchases.
Purchases of residential mortgage-backed securities and other means to lower mortgage rates are considered very unlikely in the absence of any market disruption.
US Presidency & Markets
Macquarie notes the predictions of a significant correction in equity markets if Elizabeth Warren becomes the next US president, or is even the democratic nominee. Outside of billionaire issues of lower taxes and amplified returns with a complicit president, Macquarie asks whether there are fundamental reasons to expect a significant correction.
There are likely to be changes in regulations regarding environmental and consumer protection under a Warren presidency and more concerted attacks on share buybacks and executive compensation.
A number of these changes would simply be a correction to the extreme right policies of Donald Trump but could easily amplify volatility. So the answer to the question is yes and no. A turn to Warren in 2020 is likely to be more damaging to corporates but, unless policies are changed, inequality and social tension will continue to rise.
Hence, Macquarie asserts, corporates will need to consider that, in order to survive and mesh with society, a higher share of gross national income needs to be redistributed back to labour. The best way to do this without damaging assets, in the broker's opinion, is to raise productivity.
UBS finds tangible evidence inflation is returning to supermarkets. Coles ((COL)) has noted dry goods prices were up in September while Woolworths ((WOW)) pointed to easing deflation. Importantly, UBS notes inflation is across dry goods, typically more profitable than fresh.
The broker envisages scope for the sector to outperform and has become less negative on Coles, although retains a Sell rating. Industry growth estimates are lifted to 4.5% and comparables are likely to get easier beyond the second quarter of FY20. Moreover, the broker believes an improved inflation backdrop is yet to be priced into the listed grocers and favours Metcash ((MTS)), based on a low implied valuation for grocery.
The Royal Commission into Aged Care has offered a confronting assessment of the failures in the Australian aged care industry. UBS notes the operational and financial implications will become clear after the final report but commissioners have obviously set the tone through the interim report.
The Royal Commission has stated a desire for no further piecemeal reform, making further short-term funding packaged less likely, in the broker's opinion. An urgent need has been flagged for additional home care packages. As a result, UBS suspects the current environment of negative earnings relative to costs could persist until at least FY22.
JPMorgan also found little in the report that provides direction for investors. An immediate increase in home care places would be a further challenge to occupancy but, unless higher care packages are introduced, would not unduly impact listed operators.
JPMorgan agrees a temporary funding boost now appears less likely and the sector faces at least another year of falling margins, as wage costs could rise faster than government funding. Also, given the starkly negative tone of the interim report, there is limited potential for listed providers to outperform.
Nationally, house prices increased 1.4% in October, the strongest monthly growth since mid 2015. Prices are now up 3.7% from the June trough, although still down -6.9% from the peak in late 2017. Detached house prices grew faster than apartments and Melbourne led the way.
Morgan Stanley expects the most recent cut to the RBA's cash rate will support prices in the near term as a tight market prevails. The main driver, however, of a sustainably bullish view on the housing market will be the extent to which credit supply can increase, as this reflects the capacity to absorb both price and volume increases.
The Australasian Waste & Recycling Expo in 2019 has revealed uncertainty continues to centre on who will bear the higher costs of industry sorting and processing. Industry consolidation is also likely in order to make waste processing and recycling economic. Moreover, sufficient incentives are required to improve the purity of waste streams.
Citi believes the pricing outlook is challenging for both Bingo Industries ((BIN)) and Cleanaway Waste ((CWY)), as contract structures are unlikely to allow price increases to keep pace with costs. Risk sharing is likely to be the mechanism over the longer term by which prices can better reflect the costs that are currently borne by waste collectors.
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