- February results were robust, if not underwhelming. The market's 5% surge was helped by low expectations and suggests investors had feared worse.
- However, an extension of 2018's impressive V-shaped rally contrasts a further erosion in FY19 profit growth expectations to just 3%. So we're wary that current market momentum may prove fickle, as it did six months ago after fundamentals were fully digested.
- Capital management upside was dominated by Resources, while Industrials appear to be holding back some dry powder given their challenging outlook.
- The market looks vulnerable to some profit taking, but we continue to identify opportunities amongst the noise – see key stock picks further below.
February results were broadly in-line despite ongoing systemic risks (housing slowdown, weak consumer, intensifying regulatory and political risk). February's rally suggests investors had feared an escalation of these, and the lack of any significant "new issues" for Corporates certainly added fuel to the relief rally.
However, expectations for FY19 corporate profits (ex-Resources) eroded further and sees the market tracking toward a very tepid looking 4.1% compound annual growth in profits over the next three years.
This contrasted a sharp lift in valuations, with the ASX200 Industrials 12-month forward PE recovering to pre-selloff levels at ~16.1x.
We're in familiar territory. Only six months ago the market was riding a wave of positive sentiment against stretched valuations, heading into a period directed by macro-economic noise rather than underlying fundamentals.
We remain on alert for trading momentum to potentially unwind.
Capital management a short-term focus
Capital management ex-Resources was a touch underwhelming relative to surplus capital available (Flight Centre (FLT), ERM Power (EPW)) and significant surplus franking credit balances (JB Hi-Fi (JBH), Harvey Norman (HVN), Ramsay Healthcare (RHC), Bendigo Bank (BEN)). Corporates are also broadly deploying less capital into re-investment for growth.
Clearly boards are exercising balance sheet caution against a challenging operating environment which was reflected in cautious outlook commentary.
New buybacks (QBE Insurance (QBE), Brambles (BXB)) and large Special dividends (Wesfarmers (WES), Flight Centre (FLT)) were almost universally rewarded as momentum investors seek the sugar hit, but we caution the generation of surplus capital without ongoing investment is unlikely to be sustainable.
New opportunities amongst the noise
We think that looming NSW and Federal elections, falling house prices and a range of geopolitical risks will temper expectations of further substantial market gains from here.
New opportunities to emerge from reporting season include:
- Offshore growth exponents – Treasury Wine Estate (TWE), Corporate Travel Management (CTD), Lovisa (LOV), Iress (IRE)
- Steady cashflow growers – Wesfarmers (WES), Origin (ORG), Aventus (AVN)
- Those enjoying industry tailwinds – Oil Search (OSH), PWR Holdings (PWH), Data #3 (DTL), Red Hill Education (RDH)
- Those past their cycle lows – Telstra (TLS), QBE Insurance (QBE), AP Eagers (APE)
- Cheap stocks being overlooked CML Group (CGR), Bingo Industries (BIN), Noni B (NBL), Whitehaven Coal (WHC), Orocobre (ORE)
Morgans clients can access further analysis in our full report – Reporting Season Review. Alternatively, please contact your nearest Morgans office for access.
Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.