Weekly Reports | Feb 07 2020
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Weekly Broker Wrap: housing/building materials; Reserve Bank outlook; consumers; banks; gold; and chemicals.
-More modest rebound in housing considered likely
-Unemployment trend above 5% a pivot for further monetary easing
-Pressures on Australian household finances continue
-Mortgage volume growth for major banks are likely to remain subdued
-Amid geopolitical uncertainty gold stocks move into focus
By Eva Brocklehurst
Since a trough in May 2019, house prices in Sydney and Melbourne have rebounded around 11%, which is the fastest rebound on record. Morgan Stanley expects a continuing recovery in house prices over 2020, although the rate of growth will be difficult to maintain.
The broker has noted a shift in mortgage serviceability and credit supply which suggests the recovery is broadening. Those components that have lagged the move up in house prices should improve in the first half, in particular existing housing turnover and building approvals.
Nevertheless, house price growth is expected to moderate in 2020 as credit remains constrained and the boost from rate cuts is largely factored in. As the housing construction cycle lags, Morgan Stanley expects activity will still decline throughout 2020 and affect jobs and economic activity.
Historically, rising house prices have boosted the real economy but UBS suspects this time around it may be different. Developer finance remains relatively tight and there is a lack of foreign capital. Moreover, there is a large stockpile of recent completions amid tighter lending standards.
While UBS does not expect a return to the prior boom, it is more incrementally positive on the housing construction outlook. Dwelling commencements are forecast to rise by 5000 per annum, to around 170,000 in 2020 and 190,000 in 2021. As a result the drag on growth from falling dwelling construction should moderate by the middle of the year.
The broker has become positive on building material names as a result and upgrades Adelaide Brighton ((ABC)), Boral ((BLD)) and CSR ((CSR)) to Buy. The broker believes Adelaide Brighton has the best direct leverage to local housing albeit with risks to long-term margins. Boral also require some caution because of company-specific issues. The broker likes CSR for its Sydney property outlook and ability to control margins.
Despite the positives from renewed housing activity, UBS suspects GDP is likely to be weaker in the near term, dragged down by the bushfires and coronavirus. The negative impact on the Commonwealth budget means the tax cuts expected in July are considered less likely. UBS expects the Reserve Bank to cut the cash rate by -25 basis points in April and again in August.
Reserve Bank Outlook
Reserve Bank governor Philip Lowe believes that better economic times are in the offing. Citi notes, in keeping the cash rate steady in February, the governor has retained a view that growth is likely to be slightly above trend in FY21. GDP forecasts for growth of 2.75% in 2020 and 3.0% in 2021 have been maintained.
The governor expects the 2020 GDP forecasts will be largely unaffected by the recent bushfires, drought and coronavirus. The RBA estimates the drought will subtract around -25 basis points from GDP growth in 2020.
Governor Lowe highlighted that if the unemployment rate is heading in the wrong direction then the balance of arguments will change. This suggests to Citi that unemployment trending above 5% is the pivot for further monetary easing. The governor's upbeat statement, subsequently, places at risk the broker's view of a -25 basis points cut to the cash rate in May.
After a deep dive into consumer behaviour in the wake of tax cuts and lower Reserve Bank cash rates, Morgan Stanley repositions its views on equities and interest rates. The broker finds that not only is further stimulus required to sustain a rebound in activity, it must be coordinated, which makes the next several months critical.
The survey suggests the combined impact of three cuts to official rates and one tax cut has been uneven. Many of the pressures on household finances remain and there are other pressures on the Australian economy yet to play out, such as drought, bushfires and the coronavirus.
A meaningful rebound in major bank housing loan growth is considered unlikely and switching in the mortgage market will remain a source of margin pressure. Morgan Stanley moves to an Underweight position for the banking sector and upgrades ANZ Bank ((ANZ)) to Overweight and downgrades Westpac Bank ((WBC)) to Underweight.
Earnings forecasts for companies with housing exposure have been upgraded which neutralises a negative housing-exposed stance. Thus both Wesfarmers ((WES)) and Harvey Norman ((HVN)) are upgraded to Equal-weight. An Overweight call is reiterated for Flight Centre ((FLT)) and Qantas ((QAN)) which stand to benefit from travel growth despite the near-term risks from the fires and coronavirus.
A positive view is also held on real estate, given exposure to an improving housing cycle. The broker remains underweight on regional shopping centre owners because of a weaker outlook for specialty retail.
Macquarie expects mortgage volume growth for the major banks will remain subdued because of elevated repayments and market share losses. The competitive pressures in January appear to have intensified. In addition, aggressive cashback offers and elevated front book discounts continue to put pressure on margins.
The broker believes the sector will find it difficult to outperform as earnings and dividends decline. The main upside risk is a potential rally in bond yields as the global growth outlook improves and/or if potential downgrades across the market exceed the banks.
UBS wonders whether housing credit growth has finally reached a turning point. Owner-occupied lending has risen 20% since the federal election in 2019 and is only just 4% of all-time highs. Investment property lending has bounced 10% but remains -35% below levels seen in 2017.
Regardless, the broker does not expect a rapid recovery, as much of the improvement in owner-occupied lending has probably already occurred. Business credit, meanwhile, remain subdued and weighted to institutional lending, with tight conditions across the small-medium enterprise sector. The broker agrees the downgrade cycle for banks is likely to continue.
Morgans observes geopolitical uncertainty continues to favour investment in gold. A strong gold price and weaker Australian dollar exchange rate have equated to record high Australian dollar gold prices, and this positions Australian-based gold producers very favourably.
Even though many have rallied, the broker envisages value in the market, emphasising stocks such as Red 5 ((RED)) and Regis Resources ((RRL)). Morgans likes Red 5 for its increasing reserve life and the expansion at King of the Hill. Regis Resources is the preferred mid-large cap producer because of the increased reserve life from underground extensions as well as the development of the McPhillamys project.
Nevertheless, even though prices are at record levels not all gold companies are benefiting. JPMorgan notes some companies have work to do to arrest a decline in production and costs are creeping higher.
The broker lifts long-term gold price forecasts to US$1500/oz, or $2027/oz at an Australian dollar rate of US$0.74. JPMorgan has downgraded Northern Star Resources ((NST)) and upgraded Newcrest Mining ((NCM)) to Neutral as both are now trading in line with valuation. The broker is overweight on Saracen Mineral Holdings ((SAR)), St Barbara ((SBM)) and OceanaGold ((OGC)).
Chemicals & China
JPMorgan assesses supply/demand issues are likely to emerge for importers relying on phosphate fertilisers if coronavirus restrictions continue into late February. Chinese production of phosphate fertilisers is currently curtailed.
China is the largest producer and exporter of phosphate fertilisers and the Hubei province, where the outbreak is centred, is a cornerstone of the industry. JPMorgan envisages a short-term risk for importers relying on sourcing phosphate product from China.
Across the Australian mainland the Bureau of Meteorology forecasts more than 80% chance of warmer-than-average day and overnight temperatures in February to April, which worsens the prospects for fertiliser use. Several months of above-average rainfall are still required to recover from existing rain deficiencies.
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