Weekly Reports | Mar 20 2020
Weekly Broker Wrap: economic outlook; dividends; and retailers.
-Policy stimulus will not be able to offset the loss of demand
-Market should prepare for dividend reductions and suspensions
-Retailers with discretionary product and offshore footprint most at risk
By Eva Brocklehurst
Most analysts are anticipating the Australian economy will be in recession over 2020. The shock from coronavirus has materialised as the domestic economy was running out of steam, affected by drought and bushfire.
ANZ analysts expect GDP to drop -2.0% in the June quarter alone and -1.9% in 2020. Australia will be assured of two quarters where growth backtracks and meet the criteria for a technical recession. The main issue is how deep the decline will be and by how much unemployment will rise.
Policy stimulus may help but will not be able to offset the loss of demand that comes from widespread closures. The first impact is currently being felt in the tourism and education sectors, while closure of factories in China and other parts of Asia will cause disruptions to supply chains.
However the main drag comes from a lack of demand. ANZ analysts expect the unemployment rate to rise above 7%. However, the participation rate will not fall far from historical highs as there are strong incentives for households to remain in the labour force.
Westpac economists have also revised forecasts and expect a deeper recession in 2020. Mandatory quarantine requirements for international travellers and restrictions on large public gatherings, amid a brutal sell-off in the equity market, have caused a revision to even recent estimates for a downturn.
Westpac economists expect outbound and inbound tourism to contract by -80% over two quarters. The unemployment rate is also forecast to reach 7% by October. These forecasts will be subject to downward revision in the event of a European-style full lockdown.
Goldman Sachs expects most of the contraction will be driven by a collapse in social consumption. Spending at hotels, cafes and restaurants is expected to fall by more than half and many discretionary categories by up to one third.
The broker suggests the measures announced by the Reserve Bank will do more to maintain the smooth functioning of financial and credit markets than to deliver a sizeable and positive stimulus to growth.
Goldman Sachs now expects the Australian economy to contract by -6% in 2020 in annual average terms. This would represent the sharpest contraction since the Great Depression.
As many companies abandon guidance, Morgan Stanley points out solvency has become a major focus. It is highly likely dividend pay-outs will be adjusted and in some cases the adjustment will be much greater than the actual hit to earnings.
The broker suspects it will be very difficult to raise capital and justify high pay-out ratios. A return to lower pay-out ratios will make searching for sustainable yield even more important in a dislocated environment.
Macquarie also warns the market to prepare for dividend reductions and suspensions. In the GFC, 63% of stocks covered by the broker reduced their dividends and 3% suspended them.
The broker suspects similar levels could be reached by the end of FY20. There is also concern about the ability to refinance debt and in this context companies will cut costs and capital expenditure where they can.
A further warning: don't buy stocks just because the yield is high. As earnings fall and returning capital becomes less important than other uses of cash, Macquarie anticipates June-half dividends will be reduced.
However, pay-out ratios have been rising since 2010, meaning the current crisis provides an opportunity to re-base dividend expectations so that there is less pressure in the future.
Morgans points out forecasting for the retail sector is incredibly difficult, although it has been well flagged that foot traffic in shopping centres is substantially less in recent weeks. Large format centres are expected to be more resilient than traditional shopping malls, given the nature of the shopping experience.
Online sales growth/penetration is expected to pick up meaningfully but unlikely to offset the impact of in-store sales declines. In the early days trading could be quite solid for some, as consumers bring forward purchasing decisions and brace for further restrictions.
Less expenditure on offshore travel, entertainment and services and more time at home may stimulate demand for takeaway food, white goods, technology, aftermarket automotive and household goods. However the broker remains concerned about the fourth quarter trading conditions in the first half of FY21.
While balance sheets appear okay Morgans finds it near impossible to assess this clearly as earnings uncertainty is so widespread. Debt positions can increase quickly if and when trading stalls.
The broker finds the earnings risk most elevated for Mosaic Brands ((MOZ)) and Apollo Tourism & Leisure ((ATL)) , because of an older customer demographic and shopping centre locations, Lovisa ((LOV)), because of the global footprint and reduced demand, Accent Group ((AX1)) because of multiple concepts in shopping centres, Michael Hill International ((MHJ)), because of shopping centre traffic risk and a discretionary product, and Super Retail ((SUL)), largely because of its leisure-related division.
The least downside risk is envisaged in Domino's Pizza ((DMP)), Bapcor ((BAP)), and Baby Bunting ((BBN)) as these have more defensive products and, in terms of the former, its takeaway is unaffected. Morgans has downgraded Motorcycle Holdings ((MTO)) and Super Retail to Hold for now.
Citi also anticipates a material disruption to the retail earnings outlook both in Australia and for those exposed to retailing globally. The broker downgrades non-food FY20 earnings forecasts by -11-19% with the larger cuts reserved for Flight Centre ((FLT)) and Myer ((MYR)), because of temporary store closures and weaker demand.