Mixed Outlook For Housing Related Sectors

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Brokers have analysed the current state of play for Australian housing and how they see the rest of the year play out, including the impact on the building materials sector and housing-related retail

-Data suggest a soft outlook for residential
-Varying exposures among building material companies
-Housing outlook impacts on related retail chains

By Greg Peel

Morgan Stanley has constructed a proprietary housing indicator, called MSHAUS, which is designed to lead house price and building approvals by three quarters. The most recent model update suggests conditions in housing will remain soft for the rest of 2020, although at this stage they are not expected to worsen significantly.

Morgan Stanley has also conducted a survey of construction industry professionals to gauge just what impact the virus is having.

Two-thirds of respondents noted at least a -20% reduction in activity had occurred to date, with around half noting that leads had more than halved. As result they expect to reduce headcount, meaning lay off workers, over the next 6-12 months.

In the residential space, 65% of respondents indicated that access to finance had deteriorated, 80% expected companies in the industry to face financial difficulty, and 44% expected closures.

Morgan Stanley thus expects construction approvals and activity to soften over the coming months, partially offset by government stimulus measures. Broader policies (JobKeeper/Seeker and loans to businesses) will taper from September, but given the government’s initial Homebuilder stimulus package was fairly modest, the broker is watchful of further housing-specific stimulus, particularly if soft conditions continue to the end of the year.

The RBA has provided support through rate cuts, and banks through the extension of mortgage repayment holidays, but a collapse in migration has diminished demand, as has resultant weakness in rents.

Given residential construction has the shortest pipeline, and concerns around financing, Morgan Stanley sees resi-construction as most exposed to a late 2020 “cliff”.

JPMorgan notes the collapse in migration has most impacted on apartment demand, but discussions with residential lot developers and homebuilders suggest enquiries and sales have picked up nicely over the past month. The broker is forecasting only a -5% decline in single-family (house) commencements this year.

Noting that Australia’s major building materials companies also have offshore exposure, JPMorgan points out the US housing market performance has been better than previously feared, but the outlook for construction in New Zealand remains weak.

Valuation

Taking a top-down, macro approach, Morgan Stanley favours infrastructure exposure and now seeks to avoid domestic residential exposure. Of the broker’s building material stocks under coverage, CSR ((CSR)) has the greatest exposure to residential.

Morgan Stanley thus downgrades CSR to Underweight. In the sector, James Hardie Industries ((JHX)) and Adbri ((ABC)) remain the broker’s preferred picks.

JPMorgan is also a fan of James Hardie, which it describes as the highest quality company in the sector, with a proven business model and strong recent execution.  JPMorgan takes a different stance on CSR.

Taking a bottom-up, micro approach, JPMorgan believes the PE gap between CSR and peer Boral ((BLD)) is too wide, and to that end upgrades CSR to Overweight and downgrades Boral to Underweight.  The broker also has an Overweight on James Hardie but warns the stock is now close to fair value.

On that basis, CSR and plumbing supplier Reliance Worldwide ((RWC)) are considered better value than James Hardie. JPMorgan remains Neutral on Adbri, Fletcher Building ((FBU)) and plumbing supplier Reece ((REH)).

Retail Flow-On

Citi believes housing-related discretionary retailers are the top pick at this time, and in small-caps prefers Beacon Lighting ((BLX)) and furniture chain Nick Scali ((NCK)).

While both companies have already pre-reported FY20 earnings, both are cycling relatively undemanding comparable earnings results from the first half last year and should outperform the broader sector, Citi suggests.

The broker’s view, which is supported by recent evidence, is that many of these companies’ customers are in the middle to upper income bracket and are less likely to see their incomes reduced, or lost, than younger consumers most employed in riskier retail, leisure and travel industries. Customers are also being supported by the federal HomeBuilder package and other state assistance programs.

Beacon and Nick Scali sell products that are not reliant on consumers “going out”. While the virus lockdowns resulted in a surge in demand for home office upgrades, thus supporting electronics retailers, analysts in general have been surprised in the extent of home renovation and redecoration undertaken by consumers obviously sick of their old environments, and looking for something to do.

Citi currently has Buy ratings on eight stocks in the discretionary retail sector, being, in order of preference, Beacon Lighting, Nick Scali, Baby Bunting ((BBN)), Super Retail ((SUL)), Harvey Norman ((HVN)), Michael Hill International ((MHJ)), Premier Investments ((PMV)) and Myer ((MYR)), the latter coming with a High Risk qualification.

Citi has Neutral ratings on Accent Group ((AX1)) and City Chic Collective ((CCX)) and a Sell rating on Lovisa Holdings ((LOV)).

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