ASX Weekly Wrap 30/07 - 03/08

Well it has been a couple of weeks since my last ‘ASX Weekly Wrap’ and I do apologise for that. As you recall I had been having trouble with the new CMC Markets trading platform which 80% of my clients are on. Well things got worse, so there were more headaches along the way. In better news it looks like it has settled down now, but there are problems that still persist. I am still weighing up options in terms of other platforms I can transfer clients to. I also use Commsec, which is a very reliable platform, which I can fall back on as well. We have a lot to cover this week with earnings season starting and a few macro data points to go over, so let’s get stuck into it.

The XJO finished the week reasonably weaker with a 1.04% or 65.40 point fall on the index. This was on the back of trade war fears, yet again, with Trump declaring he could raise the tariff from 10% on the $200bill of goods to a possible 25%. This caused most sectors to come off during the week, but the likes of resources fell the hardest. Our high was on Monday at 6,300.2 and our low was on Friday at 6,231.2.

Australia had a few economic data sets released during the week, which all in all were considerably bullish. To start off with building approvals came in at +1.6% YoY after a -0.6% read was expected and MoM figures saw a +6.4% rise from May to June with a flat read expected. Now these figures are quite volatile and can swing widely from month to month, but it was encouraging to see such strong numbers after several months of negative reads. I would expect building approvals, private credit and construction figures all to grow slower than usual even if there is a turn around. Banks are tightening their lending standards and taking longer to approve loans, which obviously are the foundation of the fore mentioned statistics. Thus if there is a turn around to occur I wouldn’t expect figures we saw in the last bullish period to repeat themselves again any time soon.

Our trade balance for June was released on Thursday which saw a big beat as well. The surplus came in at $1.873bill after +$900mill was expected. Exports were +3% whilst imports were -1%. This was mainly off the back of non-rural goods such as coal, iron ore and LNG. Since we have started exporting large quantities of LNG our surpluses have been extremely strong barring the third quarter last year. It’s provided a real boost for our terms of trade and economy. It is thought, like Q1, our trade balance could provide a substantial boost to Q2 GDP figures with a possible +0.7-1.0% rise being forecast again.

Finally retail sales figures for June were released on Friday with another surprise beat. Retail spending rose +0.4% for the month with a +0.3% figure expected. The last three months has seen a solid rebound in retail spending with it running at an annualized pace of +5.4% for those months. These are hardly signs of a soft economy and could point to a bullish trend. Will be interesting to see if July can provide solid growth yet again.

On the global front there were a host of PMI figures for both manufacturing and services across the globe. Most of these figures came in softer with the EU printing a 56.9 manufacturing figure down from 57.3. The US printed a 55.3 read down from 55.5 and finally China produced a 51.2 figure down from 51.5. These figures continue to soften from highs earlier in the year and to end 2017. Much of it is being blamed on trade war fears and bottlenecks in production. Whilst these figure were weaker all reads have come in above the 50 point above trend growth level, which is still bullish for the global economy.

In a quick note Apple released earnings last week which were also stronger than expected. They also posted an important milestone, becoming an $US1Trill company by market cap. Now most are claiming they are the first to do so but I will note there was a Chinese company back in 2007/08, Petro China, who had said to have passed that milestone back then. Mind you it has since lost 80% of its market cap. I believe people discount it due to how unreliable Chinese data/figures are seen. It’s a brilliant milestone for Apple considering they were on their knees in the 90s before Steve Jobs turned the ship around.

Now onto earnings we had a few larger names release their profits for the week. The first company I will cover is Creditcorp (CCP). CCP business concentrates on the purchase of debt and debt collections services and has earned the reputation of being one of the best in business at doing so over the last decade or so. The share price has reflected this with the company being only $1.00 in 2008 to hitting highs of over $23 earlier this year and now to sit at approx. $22.

So headline numbers came in at or above forecast with revenue +12% ($299.0m), NPAT +17% ($64.3m), dividend +16% (67.0cps) and EPS +16% (135.1cps). Back in August of 2017 when CCP last reported their full year’s results for 16/17 their forecast for 17/18 were as follows.

As you can see they have beaten their own guidance on every level. If you go back over their guidance’s over the last decade you’ll see a familiar pattern that CCP seems to be a company that tends to under promise and over deliver, which is what the market loves. You could expand that further because in November of 2017 they increased that guidance again to $170-190m PDL acquisitions, $62-$64m NPAT and 130.0-134.0cps EPS. Again they beat guidance on every metric based on these forecasts. Hence when we look ahead to the forecast CCP have put forth for FY19 (see below), you can bet they are conservative in nature and likely to be beaten.

Hence based off these CCP is trading on a forward PE of 15x, 3.2% yield with top end NPAT growth of +7.3% and EPS growth of +6.6%. To me these metrics seem cheap when EPS has grown at +27% CAGR since 2008 (See below). What can’t be understated is their Return on Equity (ROE) figures, which since 2011 have remained steady at 24%. This means for every dollar they are investing in themselves they are getting at 24% return on it. These are fantastic numbers and really highlight how well CCP conduct their business. It’s their ability to buy credit cheap and then recover more than what they have paid for it consistently that makes them such a great company.

Diving a bit deeper we saw their lending division grow 30% in Aus/NZ with the ‘Wallet Wizard’ product growing 14% itself. CCP note Wallet Wizard has really resonated with consumers as it provides one of the cheapest credit options out there in its category. The US business is now profitable providing a $1.9m NPAT for CCP. It is expected that their US expansion and new lending products will help to drive CCP in FY19 and beyond.

As for whether or not I would be looking to enter CCP at current prices is tricky. We have seen that for companies that can consistently grow earnings at 5-10% pa over long periods they demand a premium. Hence we are talking about companies such as CSL, SHL, ARB, IVC etc and they all trade at multiples of 20x+ due to that. If you look at it from that perspective then CCP does look cheap trading on a mere 15x multiples, but are smaller in size with a market cap of only $1bill so may have to be discounted somewhat. If you look at their price action they general do well after their earnings announcements, having a healthy rally on most occasions. This is what has occurred in the past few days and I feel has now priced CCP out of the market for me at this point. I can see a pull back to the $19.50-$20.00 region occurring in the next few months. This is the zone I feel I would be keen on grabbing CCP at and hopefully before their AGM in November. I am dirty on myself not picking some up when they were smacked down to the $15 range in June after a report from a small broking house suggested they were a strong short/sell option. However that’s how the market works sometimes. You are not going to be able to grab every opportunity.

Rio Tinto (RIO) were the largest of the companies to report last week as they revealed their half yearly report for 2018. It was a very strong report, as expected, but seemed to miss some market expectations. Below is a summary of their results.

As you can see from the above RIO is still just a ‘cash cow’ with free cash flow coming in at $2.8bill. Although this is down from 1H 2017 it’s mainly due to higher capital expenditure (automated trains) and divestment of assets. This remains the number one reason I am so bullish RIO, and BHP, in the longer term. They have become such low cost, efficient producers that margins remain very high across the board. For instance on their Iron Ore they have 67% EBITDA margin, Aluminium 35%, Copper & Diamonds 45% and Energy & Minerals 36%. This is all with commodity price still sitting at least 50% below decade highs, except for Aluminium.

The disappointment from the RIO report came from higher costs in the Aluminium business which saw earnings roughly 4% lower than consensus. This came from high input costs such as energy and raw materials (bauxite) used for producing Aluminium. RIO have stated no timeline that they expect these pricing pressures to ease.

The theme for 2018 for RIO is divestment and returns to shareholders. RIO has already divested $US5bill in assets from the company, mainly in thermal and coking coal but also some European smelters where new climate change regulations are forcing costs up. They have announced $2.2bill of dividends for shareholders, which equates to roughly 170.84cps. On top of this they will be extending their on market buyback by $US1bill and also returning $US4bill of the $US5bill raised from divestments to shareholders. They haven’t announced what form this will come in but it could be via special dividends, capital returns or more buybacks. Regardless shareholders should expect very strong returns coming their way in the next 12 months.

That about sums it up for RIO as the theme of record iron ore production driven by record steel production in China continues. Higher grade iron ore continues to be sought by China steel smelters as the government cracks down on air pollution, which puts RIO in an enviable position. Also look for India to follow suite soon as it is forecast they could import up to 1bill ton of iron ore per annum by 2030.

RIO, at current prices, is at an excellent entry point considering what is to come in the next 12 months. Trading at less than 10x forecast earnings here with a yield of 5% is a very attractive proposition for investors. Yes there are cost pressure and potential trade war headwinds, but at those metrics I feel they are more than accounted for.

Just quickly the below slide from the RIO earnings presentation is one I always like to highlight for clients. It shows the relationship between commodity prices, currency movements and energy prices and the impact they can have on EBITDA.

The final company I wish to discuss earnings on is Resmed (RMD). RMD produce masks & devices to help sleep apnea sufferers plus other respiratory problems. They updated the market with their fourth quarter & full year results last week. Overall it was a bullish report with double digit growth seen across most lines. Revenue for the fourth quarter grew 12% to $624m whilst it increased 13% for the year to $2.3bill. Mask sales were very strong, growing at 13% as RMD looks to be the preferred mask company on the market growing above competitor rates. Device sales also grew strongly at 9%, compared to 8% the quarter before. This shows RMD are either growing their market share or the market size is growing due to healthy economic conditions. Either way I am really bullish on RMD despite their forward 30x PE and 1.3% forecast yield. I believe RMD is one of those market leading companies, like Cochlear (COH), that despite strong competition are held higher than the rest. They also have a new respiratory device hitting markets soon that should add an extra growth component to the business. I am happy accumulating at current prices as a high capital growth play.

The XJO remains in a very bullish upward trend that has tightened considerably over the last few weeks. There is a strong chance we see a break out of the longer term up trend (top blue line) currently around the 6320 level. My target over the next 6-12 months, if we do breakout, are to old highs around the 6800 level. At this point the downside seems limited to 5900, which if we held, would be a great entry point to top up on top 200 stocks. My belief is this will be fueled by an oversold resources sector if trade war fears dissipate. Banks could also provide a boost if lending numbers show signs of growth in the second half of 2018 as well.

Reporting season heats up this week with a few big names reporting. CBA, AMP, TCL, TAH, AGL, CWN, JHX, REA among others reporting their full and half yearly results. On the economic front is relatively quiet with the RBA meeting on Tuesday and Chinese trade balance on Wednesday the highlights.

Been a lot of change personally at home with my eldest moving into his ‘big boy’ bed last week. He was a bit tentative at first but has since grown to love it. He is especially infatuated with the dinosaur sheets and quilt cover we got him. He looks so small when he’s in the bed but still is growing up so fast. Outside of that we had a relatively quiet weekend as my wife was in bed sick for most of it. The next move will be our youngest moving into a cot in his own room. I don’t think we are quite ready for that just yet though. Hope you all have a wonderful week and stay safe. Speak to you all soon. 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.