Commodity woes and a disconnect between earnings and share valuations has seen Citigroup downgrade the Australian market.

‘Down Under’ has been downgraded. Citigroup global equity strategist Hasan Tevfik has lowered Australia to 'underweight' in global regional allocation.

Citi says the dividend yield of Australian stocks is less attractive than it was. It is now 4.1 per cent, or 150 basis points, higher than the global average, compared with 5.1 per cent, or 220 basis points, higher than the global average at the start of 2012.

Australia’s non-commodity stocks have a high dividend payout ratio. These companies distribute 60-70 per cent of their profits through dividends, according to Tony Brennan, Citi’s Sydney based strategist.

Earnings growth is slowing in Australia, according to Tevfik. Banks’ earnings per share growth is forecast to be 4 per cent over the “next few years”. Industrial company EPS growth will be “moderate” after contracting for five consecutive years.

The benchmark S&P/ASX 200 Index has already surpassed Brennan’s 2013 forecast high of 5200.

On May 15, the index reached a 52-week high of 5249.60. At 2:37pm AEST the market was down 8.857, or 0.17 per cent, to 51713.

The S&P/ASX 200 Index is up 11 per cent in the year to date and 27 per cent in the last 12 months.

Citigroup expects the Australian dollar to trade at US97 cents over the next three months and US96 cents six to 12 months ahead. The broker also says the “super cycle” for commodities is ending.

Citi’s head of global commodities, Edward Morse, says value of use rather than intensity of use of commodities implies limited upside for prices as well as demand shortfalls. Consumption-led growth rather than investment growth will also crimp demand for commodities. China has spent an average of 8 per cent of its GDP on steel since 2004, four times the global average, according to the broker. That’s unsustainable, says Morse.

Citi predicts China’s GDP growth will drop to 7.7 per cent in the third quarter this year and 7.5 per cent in the fourth quarter, from 8.2 per cent in the second quarter.

Morse expects the global iron ore spot price to be $US128 a tonne, up from its current price of $US123.60 per tonne. But in the second half of this year, Citi reckons the iron ore price will slide to $US118 a tonne as a result of lower cost iron ore coming onto the global market.


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