The trend is no friend
PORTFOLIO POINT: Anaemic growth among ASX 200 companies, with a trend to the downside, gives Australian investors little reason to be excited by equities.
The reason the Australian sharemarket has lost its status as a safe haven was spelt out in a recent survey: 90% of all profits for the ASX 200 companies in 2010-11 were generated by the big four banks and the major resources companies.
All the other 190 or so companies on the list only generated the remaining 10%. It is common for market commentators to refer to the general economic trend when making predictions about potential returns from equities, but the real issue is whether those individually listed companies can generate any growth in profits.
Earnings growth is what keeps equity investors excited, but over the past five years most of the growth in the Australian market has been confined to miners and oil and gas companies, and those who service them.
Unfortunately for investors, global risk aversion has led to banks and miners suffering a relentless de-rating. Now we are close to finishing another disappointing year, this raises questions about how we are positioned for next year.
Consensus estimates suggest the immediate outlook is for a continuation of the same theme. There's a screaming absence of earnings growth in Australia. In the US analysts and investors are worried now that consensus forecasts for the current quarter (Q4 2011) have fallen to 10%. Ten percent!
It may seem like a warning signal for a market that has become accustomed to double-digit advances, plus positive surprises as a bonus each reporting season, but in Australia growth in earnings per share (EPS) has been far, far less. If current estimates are confirmed in February and August next year, 10% will again remain well beyond Australia's reach.
The average projected lift in EPS for the members of the ASX 200 this year sits below 5% and, mind you, the trend remains to the downside. Equally interesting is what is currently being expected from those few companies that kept up the average last year. Below are consensus forecasts for the largest and most popular banks and resources companies in the Australian share market (year one and year two):
-Not-so-great expectations | ||
Company |
Year 1
|
Year 2
|
BHP Billiton (BHP) |
3.10%
|
8.70%
|
Rio Tinto (RIO) |
13%
|
7.70%
|
Woodside Petroleum (WPL) |
7.40%
|
(-1.9%)
|
Santos (STO) |
(-1.3%)
|
4.10%
|
Fortescue Metals (FMG) |
98.30%
|
9.40%
|
Newcrest Mining (NCM) |
47.50%
|
27.10%
|
ANZ Bank (ANZ) |
2.40%
|
5.40%
|
Westpac (WBC) |
1.20%
|
5.80%
|
CommBank (CBA) |
0.20%
|
4.50%
|
National Australia Bank (NAB) |
8.10%
|
5.80%
|
Note that Year 1 for Rio Tinto, Woodside and Santos means this year to December. So Rio in 2012 is only looking at single digits, and falling, while Woodside sits in negative territory and Santos is anticipated to go backwards this year, with only a small advance in store for next year.
Equally, the largest bank in Australia, CommBank, is not expected to grow this year. The current margin is so small ( 0.2%) it may well turn out negative by August next year.
Herein lies exposed one of the obvious weaknesses of the Australian sharemarket: there's no Apple, no Nike, no Microsoft, no Unilever, no McDonald's, no Colgate-Palmolive and no Anheuser Bush Inbev to sustain growth and those companies that do keep growing profits for shareholders in Australia are too small to make a difference.
What about the world's largest miner, BHP Billiton?
Interesting question. About every commentator, stockbroker and financial planner in the country believes BHP should be in every investor's long-term investment portfolio. No questions asked. Yet, the share price today is unchanged (net) from mid-2009 (more than two years ago) and if consensus forecasts can be relied upon, there will be hardly any growth for shareholders in the two years ahead.
Note that at least three stockbrokers who updated their projections in November now forecast negative growth for both 2011-12 and 2012-13. BA-Merrill Lynch, to date the most bearish forecaster on BHP in Australia, is forecasting no growth for three years ahead, starting with the present one.
Admittedly, there are others. Deutsche Bank is still forecasting some big numbers and UBS agrees this year will probably be a negative one for BHP, but UBS also maintains that 2012-13 should see a jump in the Big Australian's profits. Which just goes to show how much the company's underlying dynamics are leveraged to global economic growth and to price forecasts.
Probably the most important observation in this regard was included in a recent report by analysts at Macquarie who, incidentally, are on the same song sheet as UBS: negative growth this year, followed by a pick-up in growth in 2012-13. Macquarie analysts point out current spot prices for most commodities are below market expectations for the years ahead. Were today's prices to be extended into 2012 and 2013, the impact on BHP's projected earnings per share for both years would be a further reduction by 11% and by 27%, respectively.
In other words: BHP shares today look cheap, but only if prices for iron ore, coal, crude oil, copper, nickel and others do not stay at present levels. They have to rise and if they do, a whole new environment opens up for the company and its peers.
If, however, sustainable growth in prices proves illusory a whole new set of dilemmas will be awaiting BHP's board and daily management. Some analysts have already started to question the rationale behind the intention to spend $US80 billion in capital expenditure in FY12-15 given cost blow-outs and marginal returns on investments made, such as the Caval Ridge/Peak Downs coking coal project.
Analysts at JP Morgan recently mentioned the unthinkable: could the sector be on the verge of entering a period of "value destructive growth"? The longer prices remain below expectations, the more such questions will be raised.
It's probably no surprise then both BHP and Rio Tinto are examining potential divestments of non-core operations.
Note that present expectations for EPS growth in Australia are for a robust looking 13.8% in 2012-13, but these projections have to be taken with extra caution given the downward trend in expectations overall.
However, it should hardly surprise anyone that, when measured on two years growth expectations ahead, the list of most promising looking stocks in the Australian sharemarket is predominantly made up by resources stocks, with Carnarvon Petroleum (CVN), Kingsgate Consolidated (KCN) and Mount Gibson Iron (MGX) leading the pack.
Sifting through the rankings the following industrials look extremely cheap, too, on the condition that present forecasts are not completely out of whack with reality.
- Virgin Blue Holdings (VBA)
- Boart Longyear (BLY)
- Macquarie Atlas Roads (MQA)
- Insurance Australia Group (IAG)
- Bank of Queensland (BOQ)
- OneSteel (OST)
- Emeco (EHL)
- TPG Telecom (TPM)
- Macmahon Holdings (MAH)
- Sims Group (SGM)
Admittedly, growth projections for companies such as Monadelphous (MND), Campbell Brothers (CPB), Domino's Pizza (DMP), Reckon (RKN) and Ramsay Healthcare (RHC) carry fewer question marks and risks, but their share prices have already priced it all in, plus some more.
Rudi Filapek-Vandyck is editor of FN Arena, an online news and analysis service.