Income Report / Income Report; A focus on reporting. (CBA, NCK, MQG, BWP, GMA, WBC Hybrid)

By Market Matters 07 February 18

Income Report; A focus on reporting. (CBA, NCK, MQG, BWP, GMA, WBC Hybrid)

Market Matters Income Update 7th February 2018

Much of our recent writing has been looking at macro events and their impact on markets globally however today we’ll skew the focus to be more micro and look at some specific company results relevant to the income investing space. Firstly, it’s worth pointing out that recent reporting in the US has been very strong, with corporate America tracking nicely, boosted by supportive economic policies – tax cuts of course – and the strength of the US economy is finally filtering through to wage growth - the missing ingredient for such a long time.

All of these things are positive and higher interest rates are the obvious outcome. In our view, the market’s reaction in the last week is more a consequence of positioning rather than something more sinister at this stage, however it clearly highlights the many imbalances that have been created during the ~9 year bull market in global equities. The market is not as comfortable with higher interest rates as it thought!

One of the aforementioned imbalances will be the catalyst for a deeper, more pronounced correction towards the end of 2018/19 in our view.  As we wrote in the AM report this morning, a warning shot to investors has clearly been fired.

In terms of the MM Income Portfolio over the week,  we were down -1.7% which is a good result considering the volatility - since inception (5th July 2017), the portfolio is up by ~5.86 %.

Commonwealth Bank (CBA)

Reported first half 2018 numbers this morning and the headline result missed consensus however there was a lot of noise in relation to the $375m AUSTRAC provision for civil penalties +  $200m expected regulatory, compliance and remediation costs which makes it hard to mark the result against market expectations. They also sold their Life Business during the period so have discontinued operations from that,  so comparisons on a like for like basis are hard, but here goes;

- They reported NPAT $4,906m versus consensus of $5,195m
-  Cash NPAT came in at $4,871m versus consensus of $5,219m
- Cash EPS 280cps versus consensus  of 300cps
-  Interim dividend 200cps consensus 206cps - implying % payout ratio (fully franked, in line with guidance of 70% in any first half).

So these numbers are light on. In terms of net interest margin, they printed 2.16% which was strong, CET 1 capital was good at 10.4% and all else appeared okay. The weaker than consensus result seems to be due to AUSTRAC costs which were taken as cash items, and I bet most analysts thought they would be considered non-cash. Strip out AUSTRAC, the result seems fine and nothing of real concern. The outlook is a bit mixed with positive global and local growth trends offset by market volatility and low wage growth – however those comments were made following yesterday’s global moves!

We remain content holders of CBA

CBA Daily Chart

Nick Scali (NCK)

The retailer also reported first half 2018 numbers this morning and they beat on most metrics, however the market’s reaction shows that investors were positioned for it. NCK have done an exceptional job over the years of beating expectations but it is getting harder and harder for them to get the mkt excited. In short, they beat on nearly every metric – EBITDA, EBIT, NPAT, EPS, DPS and, most notably, margins. Sales were marginally below what some thought which is why the stock is copping some slight selling while they guided to  FY18 NPAT of 5-10% growth , which is good but again the market was positioned for slightly more, so we’re unlikely to see upgrades come through on the back of the result.

The interim dividend was 16cps which was higher than expected, and puts it on a yield for the half based on our entry price of 2.6% fully franked – which means our expected yield of 6.57% inclusive of franking is conservative.

While we’re not buyers on the back of the result, we are comfortable retaining our holding

Nick Scali Daily Chart

Macquarie Group (MQG)

Gave their annual operational update yesterday and upgraded guidance however, again, it seemed like the market was already positioned for it and the stock got whacked by 5%. We bought yesterday in the Platinum Portfolio, however given cash consideration, and lower risk mandate for the Income Portfolio, we held tight here. That said, it’s a stock clearly on our radar.

2018 Guidance the key takeaway yesterday; In recent times MQG has failed to put a number on growth expectations, however they did yesterday saying they expect +10% higher profits in 2018 where previously they were stating ‘slightly higher’.  Based on their 2017 numbers, this implies profit of ~$2,438m in 2018 which is nice however the market was already there in consensus numbers.

The main driver was around performance fees which is good, and they also highlighted a very strong capital position. This is  bank with growth and US earnings and they have a growing dividend yield + it’s still cheap. ~$110.00 is well within the realms of possibility for MQG in the shorter term and if cash was higher yesterday for this income portfolio, we may have bought!.

Macquarie Daily Chart

BWP Trust (BWP) – essentially the Bunnings REIT

We don’t own this however we have a position in Vicinity Centres (VCX) so their comments are sort of relevant  + we look at market reactions to results in the sector. Incidentally, Morgan Stanley upgraded VCX this morning to outperform and the stock has ticked marginally higher today.

In terms of 1H earnings for BWP , they printed  $56.4m which was inline with expectations while importantly they confirmed dividend growth for the 2nd half of 1.7% - implies a full year divi of ~17.8¢  which compares to previous guidance of at least 17.51¢ - this  puts it on unfranked yield of 6.16%, which for income portfolio is worth considering.

From these numbers, we’ll likely see  minor FY18 earnings upgrades post the result but nothing big. All in all, this is a solid company, in the wrong sector at present but will do OK if asset prices fall and they can scoop up some bargains. At the moment, their NTA sits at $2.82 per share / v $2.96 share price, however if the stock comes back to NTA or below, they’ll likely buy back stock supporting the price. This is a low risk income play that although does not float our boat, at $2.80 it would!  

BWP Trust Daily Chart

Genworth (GMA)

Reported this AM and while we’ve only had a brief look at the result, all looks okay with a few offsets. Underlying NPAT was $171m and net earnings of $149m which was below the $159m expected which is obviously a tad light on however their capital positon was better . This is a capital return story / big yield, a share buy-back which should underpin share price however we are conscious that the stock looks weak technically…

We will do work on this result in the next day or so

Genworth Daily Chart

Conclusion (s)

While the market itself has thrown up opportunity in terms of price, and we used yesterday’s weakness to buy BHP for the Income Portfolio, no real opportunities have been thrown up from reporting (just yet).

Westpac Hybrid – we sent this earlier in the week however worth re-hashing. The broker book build will close today

Westpac have recently announced a new hybrid offer with details being sent to shareholders, existing hybrid holders as well as the brokers on the offer today. We met with Westpac Treasury this morning.   

The new WBCPH is a longer dated security – approximately 7.5 years in duration and will likely to be priced at 3.20% over the 90 day bank bill rate (the range is 3.20-3.40%)  however demand should see it print at the lower number. All the usual conditions of bank tier 1 securities apply with the capital conversion trigger and the non-viability trigger imbedded in this security, which is usual.  Based on the current bank bill rate, this security will pay a grossed up yield of 4.97% - floating – with dividends paid quarterly.

Given the terms of these securities are fairly standard, the variables come in terms of the issuer (Westpac), the duration (time) and the rate (3.20% over swap). On these metrics, it looks to be a fair rate. The main comparative security ANZPH has 7.2 years to first call and the security is trading at 3.32% over swap, however Westpac is considered a better issuer and almost always trades at a tighter spread than ANZ paper.

In terms of other Westpac issues, the longest is the WBCPG issue at ~ 4 yrs which is trading on a 2.82% margin. The other major factor of course is that the banks still do not need to do more than replace existing issues, which means very limited new supply is likely in the near future.

This  new issue is replacing an existing Westpac Hybrid, the WBCPC which is a $1.2bn note. Existing holders of the PC will have priority entry into this security, leaving very little room for new money. The new deal is written up as $750m in size however they will likely print $1-1.5bn in our view, however given the reinvestment offer, the lack of new supply, the issuing corporate (WBC) has only a few notes currently in the market and the demand for floating rate securities at this point in the cycle, demand for this will likely by high.

Conclusion (s)

While it’s hard to get excited about a return of ~5% , in a relative sense this issue is fair value.

Demand is likely to be strong, and given the void of new issuance, it will be well supported in the first instance
This security will not be added to the MM Income Portfolio given our current low cash levels - we’d rather buy stock into weakness at this stage  

More Details

·         Bookbuild Margin Range:  The margin for Westpac Capital Notes 5 will be determined through the Bookbuild and is expected to be between 3.20% and 3.40% per annum.

·         Distributions: Quarterly, floating rate to be based on a margin range of 3.20% -3.40% per annum above the 90 day BBSW rate. Distributions are expected to be fully franked. 

·         Perpetual (no fixed maturity date) unless Converted, Redeemed or Transferred

·         Westpac option to Convert, Redeem or Transfer on 22 September 2025 (approximately 7.5 years from issuance)

·         Scheduled Conversion into Ordinary Shares on 22 September 2027 (approximately 9.5 years from issuance), subject to conversion conditions being satisfied

·         Conversion into Ordinary Shares must occur following a Capital Trigger Event or a Non-Viability Trigger Event

·         Conversion, Redemption or Transfer in other limited circumstances


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All figures contained from sources believed to be accurate.  Market Matters does not make any representation of warranty as to the accuracy of the figures and disclaims any liability resulting from any inaccuracy.  Prices as at 07/02/2018.  11.00am

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