ASX Weekly Wrap 20/02 - 24/02

With not much action on Monday & Tuesday due to the US public holiday Monday night the week really played out in the later half. We were unable to hold that 5,800 level as we ended up losing 66.80 points or 1.15% for the week. Our high was 5,810.10 on Monday and our low was 5,729.90 today.

Earnings again were a focal point with some heavy hitters releasing their figures for the half and full year, hence just a couple of quick economic data notes. The first really doesn’t relate to any data, but comments made by Fed chair Janet Yellen. Basically to summarise she said that the next rate rise in the US would be sooner rather than later. This has really put the March meeting in play now as the market was pricing in just a 10% chance of a rate rise next month. This has now shifted to a 40% chance, so has become a real possibility. This didn’t really cause any real movement in US Treasury yields as the 10 year still sits around 2.40%.

We also got a read on the wage price index this week which saw a +0.5% increase in wages for the December quarter and an annual rate of 1.9%. This was pretty much in line with expectations and still is a soft number. However I believe in the second half of 2017 is when we see a real acceleration in wages, which means we won’t see the figures until this time in 2018.

Brambles (BXB) came out with their first half result on Monday and it was poorer than expected. It's profit came in at just US$149.2mill down from US$290.9mill a year earlier. It put this down to softer pallet sales in North America and an oil and gas related write down. Many analysts believe the ‘Amazon’ effect is flowing through to BXB. The theory is as more people shop online and buy from providers such an Amazon, rather than venture into a bricks and mortar store, it means that less stock is ordered by retailers and hence less need for pallets. Underlying profit, stripping one offs and in constant currency, rose 3% to US$468.9mill. A poor result for a company that you were paying over 30x PE for. BXB also noted its full year profit would be flat as compared with a year ago. This is opposed to the 9-11% growth it said it expected late in January. BXB also decided to pay a dividend of 14.5cps to investors for the half. This was the same as this time last year. The market savaged the stock price sending it as low as $9.19. BXB hit a high of $13.50 back in July 2016.

I was lucky enough to get most of you out of BXB around the $12 range late last year. From a fundamental point of view I didn’t like paying 30x+ PE for company with little potential for earnings growth. At the time it was expected earnings would grow at 5%. Also from technical point of view it looked as if the chart was breaking down and bad news was on the way. This was proven to be true. Nothing from BXB’s report has changed my view on them and I will continue to sit on the sidelines with them.

Vocus Communications (VOC), which many of you own, released their half yearly reports this week and they provided a solid result. NPAT was up 95% to $47.2mill and EBITDA came in at $187mill. Both were right around forecast. The dividend did disappoint slightly coming in a 6cps whereas the market expected around the 8cps mark. Still this provides a yield of 3%+ at current prices which is solid for a high growth company. I’d expect that to improve when full year numbers come in. The market saw the result as positive overall pushing VOC up 5%. VOC also reconfirmed its full year EBITDA earnings of $430-$450mill, with the second half expected to be stronger and were very upbeat in their earnings conference call by all reports. VOC will continue to be hold for me as I’d expect them to climb back into that $6-$7 range again, as they continue to hit targets and the market gains confidence back in the sector again.

Following on from Wesfarmers last week Woolworths (WOW) came in with their numbers this week and, as expected, they were soft. However there were some silver linings and some positive commentary hence the market pushed WOW up to 12 month highs. First half sales grew by 2.8% and +1.9% on a comparable basis. They also commented and said Q2 comparable sales were +3.1% suggesting they were gaining momentum. That is where the positives ended however. NPAT was down 16.7% to $785.7mill and their first half dividend was down 22.7% to 34cps. Basic EPS was also down 18% to 61.3cps. This means WOW is trading on a PE of roughly 21x. This is too expensive for my liking, especially for a company not growing profits and under so much pressure from new entrants. WOW is still an avoid for me and it’s a good chance to sell your holdings around these recent highs if you still hold.

The market liked their commentary surround recent comparable sales, big w and their renewed focus. WOW made a point of saying that they were to focus on what they do best with food. Analysts also thought that maybe the era of heavy price discounting by WOW and Coles might be over which would ease pressure on margins, however they do still face a large threat from the likes of Aldi and Amazon (fresh food delivery service) when they arrive in Australia.

Another company that surprised the market with some positivity was Coca-Cola Amatil (CCL). It released its full year results whereby its NPAT fell 37% with an impairment charge of $171mill on SPC, however underlining earnings rose 6.2% to $417.9mill. CCL increased its final dividend to 25cps up from 23.5cps a year before. Over recent years CCL earnings have struggled to increase on the back of price competition with other brands, a movement towards energy drinks by the younger generation and a struggling Indonesian business. Over the last 18 months it seems CCL have got a hold on things again and have managed to turn the ship around. I’m not looking to enter CCL here as at current prices it still is trading on a forward PE of 18x. Too expensive for a company only growing earnings by single digits. If you do hold CCL, it is probably worth holding a little longer as there looks to be more upside in the share price in the near term. They also announced an on market share buy-back program of up to $350mill. This should help set a floor under the price.

Next off the ranks is Australia’s largest airline in Qantas (QAN). NPAT was down 25% for the half but underlying earnings fell just 7.5% to $515mill excluding one-offs. The market mainly focused on QAN interim dividend of 7cps compared to none in the corresponding report last year. They also liked that fuel costs were to come in at $3.2bill and that QAN were to increase group capacity by 3% overall. Heavy price competition was to blame for the fall in underlying earnings but overall QAN is in a very healthy position with large cash flows which have resulted in over $1.3bill being returned to shareholders over the last couple of years through dividends and buy-backs. QAN is trading on a very cheap forward PE of 6.5x with a forecast yield of 5%. The company’s share price is held back by the volatility of earnings. If oil prices were to surge again this would severely impact QAN bottom line and also the fact that QAN will take possession of 5 new airbuses in 2018 and incur more debt may weigh on investor’s minds. QAN does look like it is headed towards recent highs of $4.20 again, so if you have a high risk appetite it may be one to consider.

The two biggest and most noteworthy reports of the week I feel come down to BHP Billiton (BHP) and Fortescue (FMG). I will start with BHP. As it was with its counterpart RIO, BHP’s first half profit for 16/17 was stellar. Higher commodity prices and a focus on cost reduction really boosted their profits. BHP’s NPAT was US$3.24bill v US$412mill a year earlier. They were to cut costs by US$1.2bill whilst increasing their free cash flow to US $5.8bill. Net debt was down to US$20.1bill and 24.3% respectively and they increased their interim dividend from US30cps to US40cps. EBITDA was US$9.9bill, up 65% and EBITDA margin was 54%.

Their commentary was one to focus on as they still expected growth in China to moderate but still had a bullish outlook for commodities for 2017 and beyond. They particularly focused on Copper prices and that forecasts may have to be revised upwards due to strikes in Chile and the assumption now that copper supplies will come into deficit in the early 2020s. They once again reiterated that they wish focus on debt reduction and reducing costs. This bodes well for earnings moving forward. Just like with RIO below is a slide from BHP’s presentation regarding price movements in commodities and currency and how they affect their bottom line. It must be noted that Iron ore is currently sitting at $90/t+. Let’s say it stays above $60/t for the rest of the year and BHP gets an avg price of $65/t. Based on the numbers below this means BHP’s underlying EBITDA would increase by US $2.17bill. If EBITDA margins are maintained then this could add over $1bill to their profit.

FMG also reported this week and it was probably the best of the lot from a value standpoint. In the end they shipped 86.1mt of iron ore for an underlying EBITDA of US$2.26bill. This turned into a NPAT of US$1.2bill. Their cash costs per wet metric ton were $13.06. They also got net debt down to US$4.0bill by paying off another US$1.7bill. This puts net gearing at just 30%. Since FY12/13 they have paid down US$7.5bill of debt and don’t forget they still have $1.2bill in cash on hand. They declared a dividend of 20cps which was from a payout ratio of only 38%. Well below BHP’s 50%. It also gives them a yield of 4.8% fully franked. This is based off their last two divs so it should be set to increase as their final div should rise from the 12cps they paid last year. If it does indeed match the 20cps they just declared then their yield rises to 6.1%. I’d expect it to be more than that though.

Free cash flow was US$1.5bill and EPS was US$0.39cps for the half. Thus if we look at forecast EPS and in AUD terms it currently sits at 96.5cps. This means that FMG is trading on just a 6.8x PE for 16/17 expected earnings. Barring a collapse in the Iron Ore price I can’t see how they will not hit that or even surpass it. Moving forward they want to get costs down to $12-$13wmt and produce 165-170mtpa. Based on their history they look as if they could easily do that. To me FMG is a great story with strong fundamentals. BHP & RIO both trade on PE’s of 13-15x thus if you were to give FMG the same PE of 13x then that equates to a stock price of $12.55 or there about. I feel if you believe in China continuing its infrastructure spend and Iron ore holding that $60-$70/t level then the recent pull back in FMG represents a great entry point. It would have to be my top growth stock for 2017.

Looking at the commodity space it was another quiet week with most metals coming off in price with Gold being the exception. Copper came off hard last night on fears Trump may push out his $550bill infrastructure spend until 2018. It hit two week lows of US$2.67/lb down from recent highs of around US$2.77. However as we saw in the BHP commentary copper has a very bullish outlook with supply contracting. I wouldn’t be too concerned with this. As I said before gold jumped this week to $1,250oz. It looks like a technical breakout now (above the small black line) from a short term perspective and looks well on its way to $1,300oz again (red line).

Iron ore gave up some of its recent gains pulling into the $90/t level. It did get to $94/t earlier in the week. I’m not surprised as stockpile levels are at record highs in China. Will be interesting to see their Iron Ore import numbers for February next month. Obviously Iron Ore is still well above levels it traded last year and we may see a pull back to $84/85 to test previous highs before it moves up again.

Oil also had a good week rising above the $54/b mark again. Continued optimism surround the US economy sparked the rally and just like gold, oil looks as if it could breakout in the short term.

Technically the market couldn’t breach and hold that 5,800 level so it looks as if we are headed back towards the bottom of those green tram lines in the short term. That appears to be around the 5,650 mark so roughly 100 points from here. In the longer term the technical aspects still remain very bullish. Still well on our way to 6,000 again in the first half of this year I believe.

The raft of earnings really tapers off next week as we come to the end of February. QBE, HVN, LLC & JHC are really the only majors left to report. There is a big week lined up for economic data though with some very important releases both here and abroad. None will be more important than our Q4 GDP read. Most forecasts I am seeing sit around the +0.6% mark for the quarter. These figures are released on Wednesday. Chinese manufacturing and service sector PMI numbers are out Wednesday as well.

Will have another busy weekend lined up. Lawns are in desperate need of a mow and car needs a wash. Also catching up with family. It will definitely be the weather for it again as Adelaide is really starting to turn it on. The fringe is on, of course, but I haven’t been able to get to any shows as of yet and I’m not sure I will. However the most important event to return this weekend is the Crows. It may only be the pre-season games but I can’t wait to watch them play tonight. It’s great getting a glimpse into the future and see what the youth have in store for us.

Regardless of what you are doing I hope you have a relaxing and enjoyable weekend. Stay safe and I will speak to you all next week. 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.