In Brief: Top AI Picks, Banks And Housing, Oil & Healthcare

Array
(
    [0] => Array
        (
            [0] => ((NXT))
            [1] => ((MAQ))
            [2] => ((APX))
            [3] => ((ANZ))
            [4] => ((WBC))
            [5] => ((CBA))
            [6] => ((NAB))
            [7] => ((HLS))
            [8] => ((CAJ))
            [9] => ((SHL))
            [10] => ((IDX))
        )

    [1] => Array
        (
            [0] => NXT
            [1] => MAQ
            [2] => APX
            [3] => ANZ
            [4] => WBC
            [5] => CBA
            [6] => NAB
            [7] => HLS
            [8] => CAJ
            [9] => SHL
            [10] => IDX
        )

)

This story features NEXTDC LIMITED, and other companies.
For more info SHARE ANALYSIS: NXT
The company is included in ASX100, ASX200, ASX300, ALL-ORDS and ALL-TECH

Weekly broker Wrap: three ASX-listed artificial intelligence picks; caution around house price and banks; the date world oil demand peaks & impacts of a general practitioner shortage.

-The three top ASX exposures to artificial intelligence 
-Caution on Australian house prices and ASX-listed banks
-The date world oil demand begins to slide
-General practitioner shortage weighs on referral volumes

By Mark Woodruff 

The three top ASX exposures to artificial intelligence 

Research, investment and development will continue unabated for artificial intelligence (AI) and Wilsons suggests data centre infrastructure provider NextDC ((NXT)) is the way to play this megatrend on the ASX.

In order of preference behind NextDC, the analysts like Macquarie Technology ((MAQ)) and, perhaps surprisingly, Appen ((APX)), given its ongoing tribulations and three-year share price wipeout.

Neither of these companies is trying to ‘pick the winner’ from AI, explains the broker, but all have horizontal services that appeal to a wide range of customers including global cloud service providers, enterprises and large language model (LLM) builders such as OpenAI (owner of ChatGPT), Google and Meta. 

For the uninitiated, LLMs are a type of artificial intelligence model designed to generate human-like text and understand natural language. These models are trained on massive amounts of text data and employ deep learning techniques.

The applications of LLMs include chatbots and virtual assistants, content creation, language translation and sentiment analysis, with the potential to revolutionise numerous industries, such as customer service, content generation and language processing tasks.

Wilsons divides AI exposures into three categories: data centres; LLM builders (such as Appen); and AI-services firms.

Data centres are highly likely to witness meaningful and timely increases in demand for capacity, in Wilsons view, where those with ‘available for sale’ inventory, such as NextDC, will be early beneficiaries.

Over the past few years, NextDC has invested very heavily and built its inventory ahead of expected demand, while Macquarie Technology has less inventory currently available and is considered by Wilsons a medium-term opportunity.

The analysts like Appen from within the LLM builders category.

The company is expected to capture upside via non-linear growth opportunities from generative AI, with pipeline conversion a vital metric going forward.As LLMs expand beyond English, the broker points out Appen’s global language capabilities should be highly valued by its customers. 

Moreover, given there is universal support for human oversight, Appen’s Human-in-the-Loop capabilities (e.g. reinforcement learning from human feedback will be an advantage, in the analysts’ view.

Appen’s revenue opportunities with LLM builders and enterprises, according to Wilsons, lie with optimising model performance to align with human preferences and ensuring model performance meets risk and regulatory requirements.

Quantifying the upside for both Macquarie Technology and NextDC is very difficult, concedes Wilsons. Both companies benefit from their relationships with the large global cloud service providers, which require third-party data centre capacity for the ongoing migration to the cloud, as well as capacity for the incremental AI-specific demand.

The analysts recently met with senior executives of the leader in global colocation data centre market share, Equinix, which is seeing the strongest underlying demand ever for digital infrastructure.

Equinix confirmed the two main clients for data centre operators are the LLM builders and enterprises that will take those LLM’s and apply them to their own proprietary data sets. 

As data centres are normally located in the same country as the LLM builders, which are mostly outside Australia, the biggest opportunity for both NextDC and Macquarie Technology rests with enterprises, concludes Wilsons.

Caution on Australian house prices and ASX-listed banks

Conditions may now be in place for renewed house price weakness due to the exit of many investors from the market, which also has negative implications for the ASX because of its close linkage to movements in house prices.

Jarden is less concerned than Morgan Stanley regarding the impact of house price declines on banks but sees a rising risk to non-bank lender volumes as investors aim to reduce borrowings and return to larger lenders for more attractive mortgage rates.

While Jarden still anticipates a -15% peak-to-trough fall in house prices, making refinancing more difficult for borrowers, there are limited credit implications for banks.

Over the last few weeks, the broker has seen an unusual counter-seasonal rise in new dwelling listings, consistent with recent loan broker feedback that many portfolio investors are aiming to sell properties and improve cashflow, as interest costs have risen above rental yields.

The analysts suggest rising rates have put investors under pressure, given their higher debt levels, as evidenced by CoreLogic’s recent figures showing a pick-up in the share of investor listings to 33% nationally, and a record 37% in Sydney.

The broker points out these 'forced' sales have also been a driver of increased loss-making sales, as well as a rise in sales with a hold period of less than two years. 

Traditionally, hold periods increase during a downturn, which implies to the analysts some sellers are willing to take a loss on sale to avoid higher repayments and potentially move other loans to more attractive rates. 

Jarden forecasts another two RBA rate hikes this year with a 4.6% terminal cash rate, along with a continued increase in bank mortgage rates.

Morgan Stanley also has a cautious view on the Australian housing market and notes nearly a quarter of the ASX200's market capitalisation is significantly influenced by housing conditions, with an even larger impact when allowing for more indirect economic impacts on broader domestic cyclicals.

This broker is accordingly underweight domestic cyclicals, including the Banking, Consumer and broader Housing-Linked sectors, offset by an overweighting towards Healthcare, Energy and select defensive growth names.

Regarding the banks, the analysts believe major banks' earnings have peaked, with the macroeconomic and competitive environment likely to drive slower loan growth, falling margins, growing cost pressures, as well as rising impairment charges. 

Among the big four banks, Equal-weight is the highest rating allocated by Morgan Stanley for ANZ Bank ((ANZ)) and Westpac ((WBC)), while CommBank ((CBA)) and National Australia Bank ((NAB)) are assigned Underweight recommendations.

More positively, both Jarden and UBS this week highlighted easing mortgage competition as rationality returns with an average increase of 30bps over the cash rate since January across the larger lenders, though minimal impact is expected for FY23 margins. 

UBS also notes competition has lessened for deposit funding in particular, and some of the expected net interest margin (NIM) headwinds into the second half of FY23 and into FY24 may not blow as hard as originally expected.

Jarden points out CommBank has led the pack by increasing mortgage rates above the cash rate for both basic and packaged mortgages by 50bps and 40-50bps, respectively, and has been the first to announce the end of cashbacks.

The analysts at UBS suggest consensus forecasts have it wrong in expecting the largest net interest margin (NIM) decline for CommBank in the upcoming results season, and believe the bank is better placed relative to peers.

The date world oil demand begins to slide

The peak for world oil demand will be reached in 2027, sooner than the mid-2030’s which Oxford Economics originally anticipated, and even earlier for more mature advanced economies.

Growing incomes and rising living standards are expected to underpin growth in emerging markets.

The change in Oxford Economics’ trajectory for world demand is largely due to a new in-house forecasting methodology.

Declining consumption will largely be due to robust growth in electric vehicles (EVs) in the transition away from cars powered by the internal combustion engine (ICE), explains the lead economist, Kieran Ahmed. EVs are forecast to comprise around 70% of all light vehicle sales by 2050.

Ongoing efficiency gains are also expected to curb oil’s demand growth.

While motor gasoline accounted for roughly 27% of world oil product demand in 2022, Oxford Economics estimates this share will drop to around 7% by 2050. 

By that same date, oil demand should be around -12% lower than its 2019 level, down from the 3% increase Oxford Economics previously estimated.

The quickest shift to EVs will occur in the EU, where only net zero emission cars may be sold from 2035, with most ICE cars being scrapped by 2050 and gasoline demand dropping close to zero, estimates Oxford.

Owing to the slower penetration of EVs in heavier vehicles and continued use outside the transport segment, diesel demand is expected to outstrip gasoline demand, while some of the fastest growth in jet fuel demand will come from Asia, driven by a growing middle class in China.

In nominal terms, Brent crude will average US$101/bbl in 2050, down from the US$117/bbl previously forecast by Oxford Economics.

As demand will be increasingly met by lower cost producers, prices are now expected to decline over the longer term in real terms.

In those real terms, Brent is expected to average US$59/bbl in 2022 prices, compared to the previous estimate of US$68/bbl.

General practitioner shortage weighs on referral volumes

A general practitioner (GP) shortage over the last year has contributed to weaker volumes for pathology and diagnostic imaging operators, as they are one of the main referral networks.

There are a lot of moving parts to the GP shortage and the current medical regulatory regime, so Jarden took time out to gain insights from a leading recruiter of GP practitioners.

Ultimately, the broker came way incrementally more positive on potential for the GP shortage to correct, though continues to expect it will be a near-term constraint on pathology/imaging revenues for the likes of Helius ((HLS)), Capitol Health ((CAJ)), Sonic Healthcare ((SHL)) and Integrated Diagnostics ((IDX)). 

While the demand for international GPs in Australia has never been stronger, particularly in coastal regions, the analysts take heart from proposed recruitment reforms contained within the independent Kruk report.

Recommendations in the report, slated for mid-2024, include expanding the number of countries from which Australia can recruit, lowering the cost of migration and streamlining the regulatory process.

Moreover, in the wake of the pandemic, Jarden observes GPs are reverting to superior care via face-to-face consultations (which deliver greater pathology/diagnostic imaging volumes) in preference to telehealth appointments.

On the flipside, the broker sees an ongoing negative from bulk billing, where out-of-pocket costs reduce patient attendance, with flow on impacts for pathology/diagnostic imaging volumes.

The recent Federal government budget tripled the bulk-billing incentive fee for a standard consultation, which Jarden points out does little to incentivise or increase funding to GPs already charging out-of-pocket expenses of more than $20. 

Among the DI operators, the analysts see Capitol Health as most reliant on GP referrals, but the GP shortage also reduces volumes at Sonic Healthcare and Integrated Diagnostics, while Healius is the most dependent upon pathology referrals.

Jarden leaves its rating and 12-month target prices unchanged for all four companies.

Find out why FNArena subscribers like the service so much: "Your Feedback (Thank You)" – Warning this story contains unashamedly positive feedback on the service provided.

FNArena is proud about its track record and past achievements: Ten Years On

Click to view our Glossary of Financial Terms