ASX Weekly Wrap 13/02 - 17/02

Another bullish week for the XJO as we smashed through the 5,800 level and held onto it. Overall we were up 85.2 points or 1.49%. Our high was 5,833.20 on Wednesday and our low was 5,725.60 on Monday. Once again it was earnings that moved the market as we saw some poorer results later in the week slow momentum.

Only a couple of important economic data points I want to touch upon this week as we have a raft of company earnings to analyze. The first being the Chinese CPI & PPI numbers that came out on Tuesday, which again beat market forecasts. Firstly the CPI figure came in at +2.5% for January, ahead of the +2.4% forecast and much higher than the December +2.1% figure. Also in a more surprising release PPI came in at +6.9%. Well over the +6.3% forecast. Once again these figures showing that inflation is raising and rising fast in the world’s second largest economy. Eventually this will end up boosting our inflation due to the amount we import from China. In effect we will be importing inflation. It’s no doubt China will again have to raise rates in the coming months to help curb inflation down the track.

The second economic data drop were our jobs figures for January. To me they were neither here nor there. We ended up adding 13,500 jobs for the month. Above the median forecast of +10,000, but within it was some disappointing figures. Full time employment lost 44,800 jobs and was offset by 58,300 part time jobs. I haven’t seen an explanation as to why this occurred, but on the whole it’s not great to see. Part time employment can include up to 35 hours a week work, so whether some employers just re-classified jobs who knows. Overall our unemployment rate stayed steady at 5.7% but participation slipped 0.1% to 64.6%. Finally, on another positive note, the December figures were revised up to +16,300 jobs added from +13,500 jobs. Jobs figures are so volatile and hard to get a gauge on from a month to month stand point. It’s best to sit back and look at the trends, which for us shows a healthy and solid employment market. I’d expect a real ramp up in jobs figures during the second half of the year as the Australian economy gains some momentum.

I just want to make a general comment on our economy and how it’s viewed within the industry at the moment. I had a webinar yesterday with Betashares, an ETF provider who a few of you have exposure to via HVST, which gave their outlook on the economy for 2017. I have to say they were very conservative when it came to their forecasts. They are not alone either as I had another presentation a fortnight ago, forget the provider, who were also very conservative. I believe too many in the industry rely too heavily on lagging data domestically and RBA/government forecasts, rather than what is happening with our trade partners like China and the world’s largest economy in the USA. We rely very heavily on the rest of the world to pump our economy along hence our figures will lag those overseas. It takes time to flow through to us. Most of our prosperity over the last 20 years can be put down to our natural resource exports and tourism. Yes our own service sector and housing construction sees us grow at a nice steady rate but the froth and bubble really comes from the for mentioned. Hence going by figures we are seeing, especially from China, the recent strength in the AUD and commodity prices I feel we are in for a very good period for the next 3-5 years. It’s time to get excited!

It’s finally time to look at some earnings this week, in what mostly was a very positive week. We will kick it off with the Commonwealth Bank (CBA). I know most with me don’t hold a position in them, but I feel it’s important to look at them regardless as they show the continued theme of a turnaround in the sector.

Their cash earnings grew by +2.1% to $4.91bill for the first half of the 16/17 year. Now most will say that’s not all that impressive but when you take into consideration the median forecast was $4.84bill and the fact it was actually up rather than down or flat as it was in the past, it’s a great indication. The market loved it also pushing CBA up +2.30% for the day. To go along with the better than expected profit was higher than expected EPS $2.77 v $2.74, Tier1 Capital 9.9% v 9.6% and bad debt being significantly down. Their dividend also came in at $1.99 v the $1.98 forecast. Overall a beat and a sign that the environment is improving for our banking sector.

ANZ continued this theme this morning with their quarterly earnings update and it again was very impressive. Cash earnings ended up +8% on the same time last year and are up +31% on the average for the six months prior. Its Tier 1 capital ratio came in at a very solid 9.5%, but impairment charges were up 1.8%. Once again an impressive update and one that has helped the financial sector run up about 1-2% this morning.

The major disappointment for the week was Telstra (TLS). Their half yearly report yesterday was only what can be described as terrible. Income was down 0.7% to $13.7bill, EBITDA down 1.6% to $5.2bill and profit was down 14.4% to $1.791bill. In a positive they maintained their dividend at 15.5cps fully franked and also stood firm on full year guidance. The stock was punished by around 5% on the day and hasn’t recovered since. TLS cited numerous reasons for the poor set of numbers. Mainly increased competition and lower margins to go along with higher costs due to outages etc. They also cited that due to the NBN their EBITDA would come off $2-$3bill over the next few years. To me there is little to like about TLS moving forward. I can’t see how they can turn the ship around at the moment. Unlike VOC and TPM they don’t have synergies still to be implemented and a lot of fat to cut to help improve their bottom line. It’s also likely those two companies will be stealing market share away from them. To me it’s not worth holding TLS just for the dividend because if the poor results continue the dividend will eventually be cut as well. Your money is probably better in cash or a better performing company.

Next up is a fairly new entrant to most portfolio’s and one I am continuing to add where I can, it’s Treasury Wine Estates (TWE). This was one very impressive first half result with a very bullish outlook going forward in 2018/19 as well. First half profit almost doubled to $136.2mill and EBIT increased 58.8% to $226.8mill. Its dividend was increased 63% to 13cps with a 64% payout ratio. Reasons for the stellar result come down to its Asian and US business. Both grew EBIT by 75%+, whilst also increasing margins. Commenting on the second half outlook for 2017 TWE said they expect EBIT to be in line with the first half which will also put it well ahead of the same period last year.

TWE is one of my favorite growth stocks moving forward for the next 4-5 years. Whilst it sits on a relative high PE of 30x at current prices and earnings this drops to 24x in 2018 and 20x in 2019. This is a price I am willing to pay for double digit earnings growth. Increased earnings will come from increasing business in China and the USA whilst also improving margins in the USA. Forecast yield is only 2.2% but obviously that will improve to 2.6% and 3.0% if earnings continue to grow and their payout ratio is maintained. TWE also gives investors exposure to a growing Chinese middle class and services sector whilst also giving them exposure to a strengthening US economy.

CSL once again came in with a very strong profit result up 12% to US$806mill as opposed to US$719mill a year earlier. This was mainly attributed to larger than expected vaccine sales. It also noted that it’s expected profit for the calendar year to be up between 18-20% in 2017. CSL is a favourite of the market and has been for a long time now. I suggest looking to take some money off the table here as there may be switch from the defensive healthcare sector into more growth orientated stocks. Having said that growing earnings at 18-20% is pretty growth orientated. CSL sits on a PE of roughly 34x so waiting for any pull back in the price is generally a sound strategy for them.

Another healthcare favourite in Sonic Healthcare (SHL) also released earnings this week. Most of you do hold these in your longer term portfolios and they have been good to us so I paid particularly close attention to their results. It was a solid result without being spectacular. Earnings grew 4.7% for the half to $196.7mill and it stated it expected about 5% growth in underlying EBITDA for the financial year. It increased its dividend for the half to 31c from 30c in the corresponding period. Much of its growth has come from its European business as it has seen significant strength there.

SHL is trading a little under 20x earnings here and for a company that is so reliable and predictable I feel this is fair. Any fall under $21, I feel, presents a buying opportunity. Happy to keep holding this one here.

As most of you know I am not particularly fond of Wesfarmer (WES) and their report this week did nothing to change that. It was a decent enough report with first half profit rising 13% to $1.58bill and EBITDA also rose 15% to $2.43bill. WES decided to lift its dividend 13% to $1.03cps. Whilst these numbers are solid and represent strong growth I am skeptical of their ability to maintain it. Its Coles business only grew like for like sales at 1.3% as it looks as if it will start to suffer the same fate Woolworths has over the last 5 years or so. Bunnings and Officeworks were very strong but how long can they sustain strong growth with an entrant like Amazon soon to arrive? Maybe WES sees the writing on the wall and hence why they have signaled the possible sale or spinoff of its Officeworks business whilst it’s on top. The CEO also made comment that the WES in 5 years’ time will be very different to the one we see now. I would suggest that they will try and sell their Coles and Bunnings business’ whilst they are also strong and before Amazon can have any meaningful impact. As I have mentioned before WES is not for me and I am not a fan of the retail space over the long term.

The final company I wish to talk about is a gold stock a few of you, with the risk tolerance to own in Evolution Mining (EV), reported their half yearly for 16/17 this week as well. I know I have reported I don’t like gold longer term, and this is still the case. This stock was mainly about a technical breakout and an opportunity I saw with gold likely to trade to US$1,300oz again. The fundamentals also lined up well for EVN and hence was my pick of the bunch.

Their profit was up 26% to $136.3mill on the back of record gold production (423k ounces) at its major mines. Their all in costs were also down to A$987oz and received A$1,600+ per ounce, on average, in revenue. As you can see there were some very healthy margins. They generated $213.6mill in net mine cash flow and got net gearing down to 22%. EVN decided to pay a first half dividend of 2cps unfranked.

As you can see some impressive results and their outlook gets even better. They have lifted production guidance to 800-860k ounces for the year up from 760-800k. They have also hedged almost 600k ounces of gold at a $1,633oz average. Hence if gold does go down or if the AUD rises their bottom line won’t be affected as much. The current gold price, in AUD terms, is around $1,611oz.

Finally there is lots of upside to EVN. Both their major mines are open at strike and depth, thus they have the ability to increase their resource and mine life. They also have some very promising greenfield projects. In fact EVN plan to spend close to $40mill over the next year on exploration and resource definition alone. As long as that gold price continue to creep towards $1,300oz I believe we will see $3 on EVN again. They could also have a technical opportunity to enter again if they are to close above the $2.40 level today.

Commodities were fairly uneventful this week barring Iron Ore. Oil, Gold, Copper, Zinc etc. all traded in a fairly small range. Iron Ore, however broke US$90/t for the first time since September 2014. It’s looking increasingly bullish for Iron Ore every time China reports economic numbers. I had expected some softness in the price to occur due to record stockpiles, but thus far it has defied those expectations. The chart below shows the Iron ore price over the last few years.

So where can Iron Ore go? Well I tweeted about this during the week and did some back of the napkin calculations. The below could be a plausible scenario.

In 2015 China imported roughly 953mill ton of iron ore. In 2016 they imported 1.024bill ton of it. This is a +7.5% increase from 2015. If we are to apply that to 2017 this means China will import 1.1bill ton of iron ore this year. Now most believe around 90mill ton of new supply to come online in 2017. Hence just the natural increase from China should soak most of that up. This does not factor in the US increasing their iron ore imports to boost their infrastructure spending spree, or any other country for that matter. Thus we could have the scenario where iron ore sees $120/t again in 2017. Think about the US$4.6bill profit RIO announced last week on the back of an average price of just over $53/t. Imagine what kind of profit they could obtain with an average of $80+?

Now of course this is all highly skeptical, a very simple view and relies on China and the US increasing their infrastructure spend, as promised, and no black swan events occurring. However the signs are really positive thus far with Chinese iron ore imports for January 2017 +12% on January 2016. This is also normally their quiet period during colder winter months. This year is shaping up as very bullish for all thing iron ore.

Technically we don’t need a chart this week. We moved above that 5,800 mark on the XJO and were able to hold it which is very positive for the market. There may be a few more days’ consolidation around this level before our next leg up to 6,000. All signs are good though that this will play out. Many pundits are asking if the rally, particularly on the Dow Jones/S&P 500, are close to coming to an end. The below charts set out the reality we could be some time off this bull run finishing. The last mega bull run (ie 12+ years) finished in 2000. We have not had one since. Hence this bull run we are in now could be prolonged. History has got a habit of repeating itself and the last crash we had was our worst since the 1930s. I have stated several times I am becoming increasingly bullish about the markets over the next 3-5 year period. This would definitely line up with one of those longer bull runs below.

Well that’s enough from me for another week. Have a busy weekend ahead of me. Very happy the footy is back this weekend even if it is just the pre-season competition. Lots of earnings to report next week as well with BXB, SYD, WOR, BHP, SUN, WBC, CCL, FMG, VOC, WOW, WPL, OZL, QAN, HVN among others reporting results. Will probably be another long weekly wrap again next week. Until then have a wonderful weekend and enjoy this milder weather. Only 20 degrees in Adelaide on Saturday. Will have to find my jumpers. Go Crows!

heath@hlminvestments.com.au

0413 799 315

Important Notice

Any advice in this article should be considered General Advice only and does not take into account your personal needs and objectives or your financial circumstances. You should therefore consider these matters yourself before deciding whether the advice is appropriate to you and whether you should act upon it. I am happy to assist you in this process. To do so, I will need to collect personal and financial details from you before providing my recommendations. Please note the author may own shares in the companies mentioned in the above blog