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The Wrap: Oz Housing, Earnings, Retail Sales, BNPL

Weekly Reports | Jun 11 2021

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Weekly Broker Wrap: Higher loan rates pending, corporate earnings push higher, retail sales boom over, BNPL consolidation issues

-Higher fixed rates may offset APRA’s need to intervene
-Multiple effective vaccines have sent global equities above pre-pandemic levels
-Value-cyclical sectors, energy and financials have both surged over 50%
-Retail sales stalling, BNPL rising

 By Mark Story

Oz housing: Rates to rise in second half

APRA Chair Wayne Byres recently advised a senate testimony “that there isn't a threshold" for higher risk lending at which the regulator would intervene. Byres suggested it was important to look at further intervention in the context of who is doing the borrowing, and noted a big difference between first home buyers (FHB) and investors.

In light of these comments, Jarden now see macroprudential tightening –tools to tweak lending regulations – as less likely, and suspects higher fixed rates may offset APRA’s need to act.

While Jarden still sees 10-15% upside for house prices ahead, the broker believes a pending increase in fixed rates is likely to take some heat out of the market in second half calendar year 2021.

With final drawing on the Reserve Bank of Australia’s (RBA) $200bn term funding facility (TFF) due on June 30, a cheap source of 3-year fixed rate funding is about to come to an end. Jarden suspects this is likely to see 3-year fixed mortgage rates rise.

The broker notes higher rates and the imminent expiry of the TFF have already seen the last 4 and 5-year fixed rates below 2% disappear. Given the historic relationship between 3-year fixed rates and 3-year swap, the broker expects fixed rates to rise by 25-50bps in coming months.

Jarden believes the current 2.04% spread between 3-year fixed rates (2.14%) and the TFF (0.10%) suggests fixed rates should rise 25bps given the current 3-year swap (0.35%). But the broker also notes the fixed-swap spread which has averaged 2.27% over the last 10 years, implies a 50bps rise in fixed rates to 2.6%.

For longer-term fixed rates (4 and 5-year), Jarden suspects even larger increases are likely. The broker expects the current 4 and 5-year swap rates of 0.63% and 0.87% to likely move higher as yield curve control rolls down.

Based on Jarden’s borrowing capacity model, a 50bps increase in mortgage rates is worth 4-5% to house prices. While this is unlikely to lead to outright falls in prices, Jarden suspects it could see record price growth of recent months moderate.

As a result, the broker concludes the probability of APRA tightening macroprudential policy is reduced.

While higher risk lending is increasing, Jarden reminds investors that much of this is driven by first home buyers, which APRA appears to have little appetite to constrain. As a result, the broker now sees the rebound in investor lending/credit growth as the key risk.

But if APRA were to intervene, Jarden thinks it would be in late-2021/early-2022 at the earliest.

Corporate earnings post-covid rally

With more than 2.01 billion vaccine doses having being administered across 176 countries, covid infection rates have generally flattened or declined where vaccination rates are highest.

The announcement and subsequent progressive global rollout of multiple effective vaccines has sent equities back to pre-pandemic levels and well ahead of pre-pandemic levels in the case of the US market.

Within Wilsons' weekly view on Asset Allocation, the broker notes the rally has been backed by a significant recovery in corporate earnings post the strict lockdowns across much of the world in the second quarter of calendar year 2020.

However, in much of the world, adds Wilsons economic activity is still not operating “normally”. As a result, the broker reminds investors that expectations for both significant incremental economic recovery and significant earnings recovery over the coming 12 months are not without risk.

Cyclical sectors have taken leadership since the vaccine efficacy announcements in early November and have now priced in a significant recovery. At the same time, Wilsons notes the secular growth large cap covid winners of 2020 also remain relatively buoyant.

Since the post November efficacy announcement, the "Value Cyclical" sectors energy and financials have both surged over 50%. With the exception of utilities, all other sectors have grown by 10% or more.

The broker believes there is little margin for error in terms of either economic overheating or undershooting expectations, due to disappointment around the vaccine rollout and the pace of a global reopening.

So far, 12 vaccines producing a total of 8.7 billon doses have received regulatory approval for use in the countries for which they have been ordered. While that’s encouraging, Wilsons also reminds investors that vaccine hesitancy, which is prevalent in low-income and high-income countries alike, poses a potential challenge to herd immunity.

The best vaccines are thought to be more than 95% effective in preventing significant illness. However, it is suggested that vaccinating 70% to 80% of the global population would enable herd immunity and a return to some sort of normalcy.

At the current global pace of 35 million doses a day, Wilsons estimates it would likely take another year to achieve a significant level of global immunity.

Wilsons base case is that vaccines will continue to be effective and that global reopening, led by the developed world will see equities push higher on a 12-month horizon. However, given that vaccine rollout and global reopening scenario is a monumental task, the broker thinks the risk of setbacks along the way still bears watching.

Retail sales stall

Trends within National Australia Banks (NAB) May 2021 Cashless Retail Sales Index suggest Australia’s covid-induced consumer boom has largely run its course. Reflecting the turnaround in dwelling construction, NAB data suggests the drivers of growth are turning away from retail to dwelling, plant and equipment investment and manufacturing.

Signs of consumer spending returning to “normal” pre-pandemic conditions were evident within NAB’s data mapping which points to the Australian Bureau of Statistics' (ABS) retail sales growth measure stalling in May, up just 0.1% on a month-on-month basis.

The ABS printed monthly growth of 1.1% in April, well below NAB’s 2.0% forecast at the time.

NAB’s weekly tracking data suggests this slowing trend accelerated towards the end of the month, and not just in Victoria. While household goods, department stores and other retailing were key drivers of growth last year, NAB’s data mapping shows these sectors recording flat to negative monthly growth in May.

Clothing, footwear and hospitality, which suffered greatly in 2020, had stepped in earlier this year to fill the gap, but NAB’s data mapping points to a weak print in these areas, particularly for clothing and footwear.

BNPL: Multiple account holders at risk

National Australia Bank’s (NAB) latest Consumer Insight Report (June) reveals that nearly one in five Australian consumers were holders of BNPL debt in first quarter FY21, making it the fourth most common form of debt.

There is no clear pattern between BNPL debt and income, but BNPL debt is more widespread among consumers under 50. While one in four people aged 18-29 (26%), and 30-49 (24%)  hold BNPL debt, this compares to just 5% for those over 65.

NAB data also reveals BNPL debt is more common amongst consumers living in regional cities (21%), compared to rural areas and capital cities (17%).

On average, Australian consumers hold 1.8 BNPL accounts, and are most likely to use them to buy clothing (45% of all consumers) and major household items like furniture and appliances.

NAB suspects comparatively low levels of debt stress most likely reflects moderate levels of difficultly reported paying instalments on time. However, young men were over-represented with almost 6 in 10 (59%) having missed a payment.

According to RBA data, over 83,000 merchants used the two largest ASX-listed BNPL providers Afterpay ((APT)), and Zip Co ((Z1P)) alone in December 2020. Around 6 million active users accounted for circa $11bn in transaction value.

NAB notes that with BNPL services not currently required to hold a credit license, and not subject to the National Consumer Credit Protection Act 2009, multiple accounts could leave the most vulnerable consumers struggling to manage multiple payments.

Adding to these concerns, NAB data suggests the number of consumers with multiple BNPL accounts are the lower income group, with this cohort likely to hold four-plus BNPL accounts. Despite these concerns, NAB’s first quarter FY21 survey suggests consumers are not experiencing overt levels of stress about their BNPL debt.

However, NAB data did reveal a large gap in BNPL debt stress between consumers in regional cities (49.2 points) and rural areas (37.0 points).

Sezzle receives boost

Meantime, at the individual BNPL company level, recent data tracking by Macquarie has shown unusually high month-on-month uptick for BNPL operator Sezzle ((SZL)) in both ratings increases across iOS and Google stores as well as ratings uptick.

Sezzle’s growth in comments (up 37%) has dramatically increased versus the previous month when comparing against peers and its own historical growth. Positive ratings have boosted the company’s average star ranking across both Google and Apple stores to 4.9 the highest amongst peers.

Macquarie thinks this could be related to the company’s increase in US news flow over the past month including plans to file registration statement for US IPO announced on 30 April. In other recent developments, Sezzle also signed a 3- year partnership with Target US earlier this month.

Overall, US BNPL comments grew 5% month-on-month versus 4% the previous month, whereas momentum in both Australia and UK moderated.

While Afterpay growth appears slower than peers in the US, Macquarie notes it has a higher starting point and is expected to retain the number one position. Results of the broker’s recent US consumer survey on BNPL also show Afterpay having the highest download penetration of the pure-play BNPLs.

The number of merchants verified as being removed from Afterpay’s platform has not increased versus the previous month. But if merchant drop-offs continue to accelerate, Macquarie thinks this could point towards one of the leading indicators for consolidation within the sector.           

While it’s still early days, the broker expects the BNPL sector to go through a period of consolidation in the medium-term before seeing better days. But that said, Macquarie also sees opportunities as a result of the large volatility to find strategic entry points into the sector.

As a result, the broker recently upgraded Afterpay to Outperform.

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