A SERIES of official interest rates cuts is typically a great time to buy stocks. There are certain sectors, including finance, retail and building materials, that perform better at this stage in the cycle
We have already seen some sharp jumps in certain stocks and this is likely to continue. I have selected a few that might benefit from this environment in coming months.
Mortgage Choice (MOC)MORTGAGE brokers such as Mortgage Choice suffer when people decide to save money rather than borrow to buy houses.
A negative trend has been in place for several years. This problem was compounded five years ago when the big banks took a knife to commissions paid to brokers. The downside leverage was stark with Mortgage Choice's share price dropping from $3.47 in May 2007 to 65? in November 2008. The stock is now at $1.56.
It would seem the tide is turning for the broker that writes about 5 per cent of the home mortgages in Australia each year. The company's share price got a kick along in August when it told the market its profit result would only be 5.6 per cent lower than the previous year rather than the 10 to 15 per cent previously forecast.
At the end-of-year result management took the audacious step of providing guidance for the 2013 year, saying profits and dividends would be steady despite the company spending an extra $1.5 million on new ventures. This means investors can relax in the knowledge they will receive a fully franked yield of 8.3 per cent as they wait for a pick-up in activity.
If there are several interest rate cuts there is a strong chance activity in the home lending market will tick gently higher. The banks will start to pay higher commissions again. Under this bullish scenario the stock could beat earnings forecasts and the share price power towards $2.
Silver Chef (SIV)
QUEENSLAND-based Silver Chef has been rocketing higher in recent months. It provides equipment funding for a range of industries, with a concentration on hospitality.
The group delivered earnings per share of 37.4? for the year to June 30, slightly better than expected. Analysts think it can keep lifting earnings and are forecasting 42? a share for the 2013 financial year. Traditionally the company trades around 10 times forecast earnings, and at $4.40 this means it has hit the upper limit of its range.
The big limit to earnings growth would seem to be funding, rather than demand from the market. This has been a problem for Silver Chef, with the bulk of its debt funding coming from a $110 million facility from CBA that is up for renewal in October next year.
More recently, the company raised $30 million in a public bond issue at a cost of 8.5 per cent. With a return on invested capital of close to 15 per cent, this makes a lot of sense. It has also given investors comfort the company can raise money outside its core debt facility.
With the extra funding and official interest rates falling, demand for Silver Chef's products will no doubt rise. The stock price could easily rise another 50?.
SFG Australia (SFW)
A SECTOR that always does well when the sharemarket is rising is financial planning. Even with government changes to how a financial planner can charge clients, there is still a natural leverage to higher stock prices. Put simply, if a financial planner is able to charge a fee that equates to a percentage of funds under advice, administration or management, then a jump in the fund value will drive higher revenue.
SFG Australia is one of Australia's largest independent financial planners with more than $20 billion of funds under advice, administration or management.
The company managed to successfully merge Snowball Group and Shadforth Financial Group to produce a normalised net profit of $28.6 million and operating cash flow of $22.7 million for the 12 months to June 30. With a market capitalisation of $330 million this values the group on a historical price-to-earnings multiple of 11.5 times. With about 40 per cent of its funds exposed to the Australian equity market and costs fairly steady, a big lift in local equities could see earnings jump.
The market has started to anticipate this by pushing the share price 30 per cent higher in recent months. Don't be dissuaded by a rising share price because this is not a well-owned stock and its earnings have great leverage.
matthewjkidman@gmail.com
The Age does not take any responsibility for stock tips.
Frequently Asked Questions about this Article…
How do lower interest rates affect the stock market and which sectors typically benefit?
Lower interest rates often make stocks more attractive because borrowing costs fall and economic activity can pick up. According to the article, sectors that typically perform better when rates are cut include finance (like mortgage brokers and financial planners), retail and building materials. Rate cuts can lift consumer and business demand, which tends to push share prices higher in these areas.
Why could mortgage brokers such as Mortgage Choice (MOC) benefit from interest rate cuts?
Mortgage brokers like Mortgage Choice generally do better when home lending activity increases. The article notes Mortgage Choice writes roughly 5% of Australian home mortgages each year and expects activity to tick higher if there are several official rate cuts. That could lead banks to restore higher broker commissions, improving earnings and potentially lifting the share price (the article suggests a bullish scenario could see the stock move toward $2).
What is Mortgage Choice’s current yield and what guidance has management provided?
The article reports Mortgage Choice was offering a fully franked yield of 8.3% at the time of writing. Management provided guidance for the following year saying profits and dividends would be steady despite an extra $1.5 million of spending on new ventures, giving investors some income certainty while they wait for a pick-up in lending activity.
Why has Silver Chef (SIV) been rising and what drives its earnings?
Silver Chef, which provides equipment funding with a focus on hospitality, has been rising due to solid earnings and demand for equipment finance. The group reported earnings per share of 37.4 cents for the year to June 30, slightly ahead of expectations, and analysts forecast about 42 cents a share for the next financial year. With historically trading around 10 times forecast earnings, the article suggests the stock has reached the upper end of its range but still has upside if funding and demand conditions remain supportive.
What are the funding risks for Silver Chef and how has the company addressed them?
The main constraint to Silver Chef’s growth is funding rather than demand. Most of its debt funding comes from a $110 million facility from CBA that is up for renewal, and that creates refinancing risk. The company recently raised $30 million via a public bond issue at an 8.5% cost, which showed it can access funding outside the core facility and provided investors with extra comfort.
What makes SFG Australia (SFW) attractive to investors when the market is rising?
SFG Australia is one of the largest independent financial planners with more than $20 billion of funds under advice, administration or management. Financial planners tend to benefit from rising stock markets because fees often track a percentage of funds under management. The article highlights SFG’s normalised net profit of $28.6 million and operating cash flow of $22.7 million (12 months to June 30), a market capitalisation of $330 million and a historical P/E of about 11.5x, suggesting good leverage to higher local equities values.
Should investors be worried when a stock like SFG Australia has already risen sharply?
The article cautions not to be put off by a rising share price in SFG’s case. It notes the market has already pushed the share price about 30% higher recently, but SFG is not a widely held stock and its earnings have strong leverage to rising equity markets. For everyday investors, that means the company’s earnings could still grow significantly if local equities lift further.
What’s the overall takeaway for everyday investors when official interest rates start falling?
When official rates fall, it can create a buying opportunity in the sharemarket, especially for sectors tied to borrowing and consumer activity. The article highlights mortgage brokers (Mortgage Choice), equipment funders (Silver Chef) and financial planners (SFG Australia) as examples that may benefit from lower rates, rising activity and higher asset prices—while also pointing out company-specific risks such as funding constraints and past commission cuts.
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