1. BHP Billiton is listening to shareholders
BHP Billiton and Rio Tinto had promised the market they were striving to boost productivity and cut back on exploration costs as they adapt to an environment of lower commodity prices. Following a change of management at both companies, the market wanted to see action before it believed them. The miners' recent earnings reports show they are delivering on their promises, with strong cost-cutting and sharp declines in exploration and capital spending. That helped boost BHP's first-half profit 83 per cent to $US8.1 billion; Rio's underlying full-year profit was up 10 per cent to $US10.2 billion. We also received strong indications this discipline will be maintained. We perceive that both Rio and BHP will seek to generate better cashflows in an economic environment where China is demanding more bulk commodities.
2. China's demand for bulk commodities continues
Last year, many mining analysts and macro-economists were sceptical about the strength of China's growth cycle. But during this reporting season we have learned that China's demand for bulk commodities is still there and growing. Many analysts, basically, got it wrong, which had hurt share prices of mining and mining-related stocks. They were forecasting an iron ore price of $US80 per tonne; it is now $US120 and holding. The strength in demand has also been reflected in China's trade accounts released in January, in which exports from Australia - dominated by bulk commodities - were substantially higher.
3. Banks in housing lending sweet spot
The Australian economy is slowing and so is credit growth. Banks are struggling to grow assets in the business and personal finance space. But this earnings season, particularly with the release of Commonwealth Bank's 16 per cent surge in first-half profit to $4.2 billion, and ANZ's 13 per cent earnings growth in the December quarter, show that banks are benefiting from strong housing lending. The housing market is being buoyed by population growth and foreign buyers. But investment buyers, attracted by market price movements that stimulate investment activity, are also being quite aggressive. There is also a lot of activity from the likes of baby-boomers downsizing. Banks are in a sweet spot. They have got excellent economies of scale in the mortgage lending par of their business; they sell a loan and it's on their books for 20 years. They can also fund housing asset growth without diverting significant capital to it because of risk-weighting rules.
4. The building sector is strong
The strength of the housing market is also benefiting another sector: building. Boral delivered a 73 per cent surge in underlying net profit to $90 million, helped by cost cutting but also a turnaround in the Australian building products division. Despite the slowing economy, the housing pick-up cycle is likely to last and continue to benefit building companies. Outlooks for builders will be pretty good in that environment. They will also benefit from an improvement in operating costs if the carbon tax is removed from July 1 as expected.
5. Retail will struggle in the second half
Sales figures from retailers in the first half, such as Woolworths and JB Hi-Fi, were reasonable despite a difficult climate - particularly with unemployment picking up. There was also a solid Christmas recovery spurred by the historic low interest rates. But it was clear that retailers snuck through the first half, and that discretionary retail will be tested in the second half. Unemployment is likely to increase; the honeymoon period for the Abbott Government, if there was one, is clearly over; and a difficult Federal Budget is looming. All in all, consumer sentiment is on the wane, which means a tough time for retailers coming up.
John Abernethy is Chief Investment Officer, John Abernethy at Clime Asset Management. To find out more about Clime, or to register for its free weekly email visit www.clime.com.au