Market Matters Report / Market Matters Weekend Report Sunday 3rd March

By Market Matters 03 March 19

Market Matters Weekend Report Sunday 3rd March

Market Matters Weekend Report Sunday 3rd March

The hectic month of February came to a close on Thursday and with it so too the half yearly earnings season for Australian companies. For the week, the market added +0.41% led by the Healthcare which added an impressive +3.71% and the Financials which added +1.40% however taking a step back and looking at the 28 days of February (29 days next year for a leap year so my eldest daughter told me this morning)  - the rally in stocks was an impressive one, more so locally than on the international stage. The Australian market excluding dividends advanced by +5.2% while the US S&P 500 was up by +2.97%, the Dow Jones added +3.66% and the Nasdaq finished +3.44% higher, however it was Chinese markets that really impressed, the Shanghai Composite adding 12.82% for the month – punching through resistance thanks to more positive commentary around the Chinese / US trade discussions. If they break 3000, Chinese equities look poised for another 10% gain at least.

Shanghai Composite Chart

US market edged higher throughout the week with the S&P 500 adding 0.39%, however 2800 resistance is still holding for now. No change to our outlook at this stage, we still believe they have a strong risk to the downside with our target ~5% lower but we should a remember that tops, even short-term ones, generally take longer to evolve as opposed to bottoms which usually react like a tensioned spring board.

S&P 500 Chart

US Interest rates caught our eye last week with the US 10 year yield rising  from 2.62% to 2.75%. One of the key factors supporting this recent rally in equities has been lower interest rates. While rising rates are an indication of economic strength, they also present a headwind for asset prices. Last year we saw two bouts of market weakness, both led by interest rates but interestingly,  both for opposite reasons showing how twitchy the market is to movements in rates. Low rates are supportive unless they indicate a looming recession, while high rates imply economic strength, but too high and they crimp growth.  

US 10-year Bond Yield Chart

Reporting Season

Half yearly results have clearly dominated the news wires locally and we’ve seen some extreme volatility at a stock level driven obviously by results but more importantly, market positioning around those results.

Investors (including MM) where more bearish than bullish leading into reporting season and the outcome was not the ‘car crash’ that it could have been. The correction in global markets in December was driven by fears of a global slow down – an impending recession led by the US – however that negative backdrop generally speaking didn’t show up through weakness in earnings (yet).

According to Bloomberg data, 33% of company reports beat consensus expectations by at least 2% and 38% missed by the same hurdle. That’s a reasonable effort, pretty much in line with historical averages and when considering the markets net bearish positioning ahead of the results, it’s easy to comprehend why the market rallied so strongly.

We’re now likely to see a lot of attention turn to ‘cloud’s ahead’ given the more downbeat outlooks provided by a lot of companies. Weak housing and a looming election will get most airtime here – they seem to be the go-to risk factors locally, however we’d caution that these are known knowns for the market – not new, nor surprising in MM’s view, the counter side of these risk factors would actually be more influential on the market i.e. house price falls moderate and show signs of a bottom while Labor get in with a big majority providing political certainty in Australia, the first time we’d had it in over a decade.

Today’s report will dig into the various sectors and the trends that came out of reporting season, and importantly, how we intend to play them. 

At MM we remain cautiously bullish for at the least the next 3-6 months hence we will continue to remain focused on sectors / stocks where we want to increase our market footprint.

ASX200 Chart

1 Banking Sector

Commonwealth (ASX:CBA) and Bendigo (ASX:BEN) reported first half results while the other 3 major banks provided trading updates. Bank of QLD (ASX:BOQ) issued a profit downgrade.

Key points: 

- Competition in the home loan sector is high in a weakening market – not surprising and probably set to continue
- Short term funding costs went up which put pressure on margins. This can be shown through the 90 day bank bill rate below. Banks generally borrow short term and lend long term, so higher short term borrowing costs hurt -  the trend has now reversed. The regional banks are most impacted by this theme so theoretically, should have the most to gain on its reversion
- Regulatory costs were high, and will remain high for a while – not new news and the outcome from the RC was clearly more bank friendly than it could have been  

90 Day Bank Bill  Rate Chart

MM take:

- Banks to outperform from here, we remain overweight, holding CBA, NAB & WBC while we bought BOQ in the Income Portfolio into weakness this week. Regionals most oversold, WBC best value major, CBA the most likely to be sold into further strength.    

Bank of Queensland (ASX:BOQ)

2 Diversified Financials Sector 

Fund managers have been ‘hot’ as investors look for cheap leverage to a rising market, while some of the beaten down ‘sector dogs’ like AMP and IOOF have moved up from their lows.  

Key points:

  • Cheap stocks have been bought, Perpetual (ASX:PPT) has added 28% in the month and Janus Henderson (ASX:JHG)  added 15%, however the higher quality operators like Magellan (ASX:MFG) have also jumped –  up 25%
  • Annuities provider Challenger Group  (ASX:CGF) downgraded earnings blaming market volatility in the December quarter, however continued margin compression (the difference between the returns they guarantee to annuity holders and the returns they achieve by investing the money) remains a concern – this is a divisive stock and risks remain high
  • Mortgage Insurer Genworth (ASX:GMA) showed that while property is weak, actual mortgage stress and foreclosures are not yet a major issue across the country – GMA rallied ~20%

MM take:

Targeting a sell into further strength for the sector overall   

Perpetual (ASX:PPT) Chart

3 Insurance Sector 

QBE’s international exposure helped rather than hindered this time around and it delivered a ‘clear’ set of results, and rallied as a consequence – the wayward ship is turning.

Key points:

  • Insurance remains tough, although tougher in Australia than overseas it appears
  • Suncorp’s banking division was soft and that hurt their result
  • IAG (and SUN for that matter) have strong capital positions & further capital management is likely 

MM take:

We hold QBE  and recently excited SUN. QBE now targets $13

QBE Insurance (ASX:QBE) Chart

4 Resources / Material Sector

The miners performed well in February helped by a combination of strong commodity prices and  large scale capital management initiatives.

Key points:

  • Actual profit results were reasonable, Fortescue Metals (ASX:FMG) the best in our universe, while BHP had a weaker than expected first half, and is now looking for a strong 2H  
  • Capital management was key, however miners are owned for growth and RIO in particular has a growth void in the next few years   
  • Remember, miners are cyclical,  the journey from January 2016 lows has now included 6x bull market moves (>20% index moves)  - pullbacks will happen and one now seems likely

MM take:

Large cap miners BHP, RIO & FMG are a ‘sell’ into current strength. We own Western Areas (ASX:WSA)  & Alumina (AX:AWC)

Western Areas (ASX:WSA) Chart 

5 Gold Sector 

The AUD Gold price had been strong at the end of 2018 and early 2019 however its now starting to correct - some patience now warranted.

Key points:

  • Sector heavyweight Newcrest (ASX:NCM) met expectations and re-confirmed full year guidance. Profit was strong and NCM management are delivering nicely
  • Good operational results seen from Northern Star Resources (ASX:NST) , Evolution Mining (ASX:EVN) & St Barbara (ASX:SBM)
  • Saracens (ASX:SAR) and Regis Resources (ASX:RRL) had issues in their respective results, mainly around costs    

MM take:

We are short term bullish the AUD which is a negative for Gold in AUD terms, we’ve seen insider selling in a number of names and technically a few stocks in the sector look tired – we are remaining patient.

Newcrest Mining (ASX:NCM) Chart

6 Energy Sector

Oil prices look positive with a test of $64 / +12% the next technical target. Given that backdrop, energy stocks remain a buy the dip scenario, and reasonable pullbacks are common.

Key points:

  • A massive dividend from Woodside (ASX:WPL) which amounted to a payout ratio of 103% reduced their franking credit balance however don’t expect the same in future
  • Santos (ASX:STO) has now moved from a focus of cost cutting / balance sheet repair in the last 3 years, to growth. Traditionally, they’ve been poor acquirers
  • Oil Search (ASX:OSH) is moving from a one-trick pony in PNG, to growth in Alaska. A long term transformation but the short term is more muted   

MM take:

WPL below $34 our key pick while Beach Petroleum (ASX:BPT)  remains solid, however risk reward not exciting at current levels

Woodside Petroleum (ASX:WPL) Chart

7 Food Sector

A mixed trolley through February reporting however M&A activity in the sector is heating up. This is typical when highly cyclical stocks decline on the back of shorter term transient factors like weather.  

Key points:

  • Costa Group (ASX:CGC) downgraded in January due to weak prices for berries, tomatoes and avocados rather than structural issues – the 40% decline in share price was aggressive
  • Cattle company Australian Agricultural (ASX:AAC) has been hit from QLD floods - the share price is more than 40% below the years high
  • Graincorp (ASX:GNC) received a takeover bid in December when its share price was low while RuralCo (ASX:RHL) received one this week from Nutrien and shares rallied 45%

MM take:

Buying structurally sound companies into cyclical weakness can yield good results. This week we added Costa to the Platinum Portfolio

Costa Group (ASX:CGX) Chart 

8 Consumer Services Sector

A heavily shorted sector and after a ‘less bad’ reporting period, some of the rallies have been significant.

Key points:

  • Funeral operator Invocare (ASX:IVC) went into February with more than 13% of shares short sold. Deaths had been unusually low and while we can’t predict when, we do know that these fluctuations are unfortunately temporary -  death is only deferred not avoided.  Shorts covered and the stock ran 20% in quick succession. Shorts are now declining.
  • Childcare operator G8 Education (ASX:GEM) reported lower than expected occupancy during FY18, however trends are showing small signs of improvement now. If trough occupancy occurred in 2018, the stock should rally from here
  • Aristocrat Leisure (ASX:ALL) talked up a strong second half skew to earnings on new game releases 

MM take:

We are looking at GEM as a small holding in the Platinum Portfolio, ALL needs to close above $26 to regain its bullish feel

G8 Education (ASX:GEM) chart

9 Healthcare Sector

The stocks with high hopes built into valuations disappointed during earnings season however those that had been weak showed improvement – some mean reversion starting to play out in Healthcare.

Key points:

  • Highly rated healthcare stocks Resmed (ASX:RMD), Cochlear (ASX:COH) and to a lesser degree CSL had a tough reporting period – expectations were high and all three failed to deliver to varying degrees,
  • Hospital operators appear to have bottomed , and the private equity tilt at Healthscope (ASX:HSO) was well timed(from a P/E perspective). Ramsay Healthcare (ASX:RHC)  talked more favourably about overseas operations and rallied
  • Expect others in the sector to attract takeover interest, Healius (ASX:HLS) has attracted one bid, perhaps more to come while at the smaller end of the spectrum, Capitol Health (ASX:CAJ) missed earnings and dropped sharply. Their assets / balance sheet remain sound, a takeover target potentially

MM take:

We bought RMD into weakness and sold COH into strength, both well timed moves. We are now looking at HLS for another buy in the sector.

Healius (ASX:HLS) Chart

10 Software & Services Sector

Exceptional results generally from the growth area of the ASX – the talk of valuations getting less airtime and talk of growth at a top line / user level the main discussion point.

Key points:

  • Appen (ASX:APX) & Altium (ASX:ALU) both delivered exceptional results, and rallied 60% and 40% respectively through the period
  • The buy now, pay later space incorporating Zip Co (ASX:Z1P), AfterPay Touch (ASX:APT)  & Splitit (ASX:SPT) rallied strongly  
  • While Xero (ASX:XRO) reports in May, it too is showing strong operational momentum and remains a stock to buy into weakness

MM take:

We bought APX, ALU & XRO well into the December weakness, however we left a lot on the table after booking some good profits. We are looking to buy meaningful pullbacks once again.

Xero (ASX:XRO) Chart

11 Commercial & Professional Services

A diverse sector with the traditional companies exposed to Australian construction mostly showing weakness during reporting season, particularly influenced by weak construction activity in the December quarter.

Key points:

  • Huge variance opened up between Bingo Industries (ASX:BIN) and Cleanaway (ASX:CWY), the latter of which reporting very strong earnings while the former suffered a poor end to CY18 - a big downgrade which led to a ~50% drop in share price.
  • We used that weakness to buy BIN ahead of the ACCC ruling on their Dial-a-Dump acquisition, the stock subsequently rallied following ACCC approval
  • NearMap (ASX:NEA) which provides aerial imagery was a standout during February reporting better sales and less churn of customers. While the stock has run too far too fast, momentum in the business is clearly building    

MM take:

BIN now has the opportunity to bed down the DADI acquisition which should transform the business from now on. We remain bullish BIN initially targeting $2

Bingo Industries (ASX:BIN) Chart

12 Telco Sector

While the sector still has earnings headwinds, these are starting to ease and share prices are reflecting that. More companies are looking to snub the NBN and focus on 5G while a change of Government in May could provide an opportunity for Telstra (ASX:TLS) to pick up the white elephant on the cheap.

Key points:

  • Telstra cut its dividend, which the market took reasonably well. This is  now a company positioning for better growth and therefore they need to recycle capital, the market is coming around to that view
  • Vocus  (ASX:VOC) reported late in the piece and met expectations plus reaffirmed guidance, while also raising the white flag on the NBN and will no longer focus efforts there.
  • TPG Telecom (ASX:TPM) counted the costs of a failed network build, booking a $228m write down

MM take:

The dynamics of this sector are improving and we remain comfortable holding Telstra. We flagged Vocus (ASX:VOC) as a buy in previous notes targeting $4.00, although risk/reward no longer works

Vocus Communications (ASX:VOC) Chart

13 Retail & Supermarkets Sector

Well known headwinds of higher competition and weak consumer spending remain and the recent updates from the two majors were weak   

Key points:

  • The first report from Coles (ASX:COL) as a separate entity and the same pressures persist. Weak margins and the need to spend up on new distribution centres will remain an issue for some time
  • Woolworths (ASX:WOW) fell ~5% on their 1H result with cost pressures continuing to bite. With Coles spending money to become more competitive and other entrants coming into the market, we find it hard to justify WOW’s premium PE. Metcash (ASX:MTS) reports on Monday
  • Retailers were the consensus ‘sell call’ leading into reporting season and while results were soft overall, they weren’t the disaster that was being muted beforehand

MM take:

We have no interest in the two major supermarkets, and retail overall is tough. Ideally another leg lower in the retail sector after a weak start to the year will get us keen on this area of the market again.

Coles (ASX:COL) Chart

14 Real-Estate Sector

Residential and retail exposures were weak while companies with office and commercial exposures were stronger  

Key points:

  • Goodman Group (ASX:GMG) was the pick of the sector and momentum in that business is phenomenal
  • Stockland (ASX:SGP) is the residential proxy and while they reported weakness across their book, they continue to forecast a high level of residential settlements for the full year
  • Lend Lease (ASX:LLC) continues to grapple with its engineering business and after labelling it as ‘non-core’ expect a spin-off of this division  

MM take:

Property as a sector is clearly on the nose however the elastic band will stretch too far, and remaining open minded to buy the sector should yield results – Stockland an example as outlined below in the ‘Investment of the Week’

Lend Lease (ASX:LLC) Chart

15 Transport & Utilities Sector

The bond proxies have benefitted from a pullback in global interest rates while still delivering their typically consistent earnings

 Key points:

  • Transurban (ASX:TCL) a standout during reporting season maintaining the dividend when a cut was partially expected.  Continued population growth and strong employment remains key for this business as they expand their network
  • Regulated utility Spark infrastructure (ASX:SKI) reported inline results however a tax ruling now means the dividend will be lower, although  that is likely to be partially offset by a franking benefit. We’re now looking at this for the Income Portfolio
  • Qube Logistics (ASX:QUB) reported an 18% increase in profit on the half and guided to a ‘solid increase’ for the year – the market now factoring in a rise of 15% for FY19. A solid growth stock however valuation remains high

MM take:

This is an area we’ve avoided given our overall view around higher global interest rates which typically has a negative influence on the sector.

Transurban (ASX:TCL) Chart

Conclusion

Reporting season was ‘above average’ however the market was positioned for a below average outcome, hence the rally in stocks

We continue to target a pullback for markets, which can be bought, although no sell signals are being generated yet.

Chart of the week.

We highlighted the bearish ETF during the week however fresh lows now remain within striking distance.

MM will look to buy fresh lows in a bearish facing ETF

BetaShares Bearish ASX200 ETF (ASX: Bear) Chart

Investment of the week.

While property is on the nose, equity markets have a tendency to price 6-9months in the future. Stockland (ASX:SGP) reported a miss to expectations (only mildly) however the underlying trends in the result were okay.    

We think it may be time to dip our toe back into property with Stockland down 30% this year.  

MM likes SGP with stops below $3.40.

Stockland Ltd (ASX: SGP) Chart

Trade of the week.

We have been watching Bluescope Steel (ASX:BSL) recently and it almost got a run last week in this section.

MM is bullish BSL with a potential target ~$16.

Bluescope Steel  (ASX: BSL) Chart

Our Holdings

Our positions as of Friday. All past activity can also be viewed on the website through this link

Weekend Chart Pack

The weekend report includes a vast number of charts covering both domestic and international markets, including stock, indices, interest rates, currencies, sectors and more. This is the engine room of our weekend analysis. We encourage subscribers to utilise this resource which is available by clicking below. **Please note, this weeks chart pack will be updated Monday Morning**

 

Have a great day!

James & the Market Matters Team

Disclosure

Market Matters may hold stocks mentioned in this report. Subscribers can view a full list of holdings on the website by clicking here. Positions are updated each Friday, or after the session when positions are traded.

Disclaimer

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 02/03/2019

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