Welcome to the October edition of the Burrell Blog for 2017.
A good start to the financial year
Suncorp Concept Store
To begin with a recent company visit, Suncorp hosted Burrells to an inspection of the Suncorp Carindale concept store. To say our group was impressed is an understatement. While the adjacent NAB branch with its space age style self-service stands and across the way the Heritage traditional two teller store fronts were largely empty, the Suncorp concept store was full of happy and engaging people enjoying a coffee and having a conversation with one of the multi-skilled Suncorp representatives. When Suncorp CFO Steve Johnston visited us six weeks ago, our sense was that the market had misunderstood the Suncorp concept stores and the negative market reaction to the expedited roll out by the Suncorp Board was a buying opportunity. We have asked Steven back to address the forthcoming Market Outlook Breakfast on Thursday 2nd November 2017 and invite readers to join us.
There was little in the last month to change the portfolio settings recommended in the July Bourse for this 6 month period. The tick up in long bond rates is consistent with a view of fixed interest which looks for shorter term and floating rate fixed interest securities. It has become clearer the international long term fixed interest rates are likely to rise before Australian rates, but it must be remembered that overseas interest rates have fallen to much lower levels than Australian rates and so there is more scope for a return towards rates that give central banks overseas some fire power. The logic that low longer term rates means property and infrastructure are trading above sustainable value remains intact and investments should be selective in these sectors.
The US market remains on average at high valuations, but to date has not corrected given the carrot of lower corporate tax rates remains on the table in the USA.
Volatility remains low in overseas equity markets whilst at the same time some of those markets are at record highs, particularly in the USA. A sound strategy for those not wanting to sell overseas international share or managed funds is to buy some protection against any falls in the US market in 2018. This protection is akin to insurance and Burrells are able to arrange this for clients.
Australian equities remain the sweet spot with the ASX S&P 200 index up 4% year to date and the small to mid-caps index up twice that amount. BSMaRT (Burrell Small to Mid-Cap and Resources Trust) was up over 10% net FYTD and there have been some good outcomes on mid-cap stocks during the first four months, as well as a few that disappointed during the reporting season.
In conclusion, selective selling of stocks trading at unsustainable PEs and the purchase of good companies at reasonable valuations, adjusted for growth, has seen a sound start during the first four months of the year.
To say sentiment towards the Australian banking sector is negative would be an understatement. We are awaiting reporting from the three major banks with September year ends being ANZ, NAB and Westpac. The announcement over the past week of the sale of part of the ANZ wealth business to IOOF for $960M less over $200M of separation costs was underwhelming to your diarist. ANZ had indicated a sale price of $3-4B. The announcement doesn’t include the life insurance and income protection business, but it seems doubtful this split sale is a good deal for ANZ and its shareholders. It is interesting that at a time when European Banks are expanding their wealth management arms, the Australian banks have been unable to incorporate and align their financial planning/wealth management service alongside their banking advisory service. The exception appears to be Westpac.
Brian Hartzer, Westpac CEO commented that in Australia there seems to be one of the major banks in the ascendency. Historically 15 years ago it was NAB, which following various failed overseas acquisitions including Homeside in the USA and Yorkshire Clydesdale in the UK, as well as the Melbourne foreign exchange scandal, saw NAB fall from glory.
Then CBA picked up the mantle as Australia’s leading bank and its market capitalisation grew to be substantially above that of the others. CBA have had a series of issues and clearly their star is tarnished.
Your diarist is inclined to agree with Brian Hartzer that Westpac’s time has come. While some will debate whether the ACCC and the Government should have stopped Westpac’s acquisition of St George bank during the GFC and whether that now has led to some of the issues around the lack of competition that we see in the daily press, the fact is that acquisition was allowed and strengthened Westpac’s position as it effectively acquired the 5th largest bank in Australia. Burrell clients are on average overweight Westpac and we think this is the correct positioning. Looking to the reporting season, there is one negative which is currently holding us back from further buying. That issue is whether Westpac and NAB will cut their November dividends. While this issue has been discussed in the financial press for several years and there was surprise in some quarters that NAB did not cut its May dividend, any move to trim the dividends would likely result in negative market reaction. We saw that last year when ANZ cut its dividend, but do not anticipate that ANZ will make any further changes to its payout ratio. The Telstra dividend cut was savagely greeted by investors. There has been little preparation for any cut in the dividend by NAB and Westpac, with the increased capital requirements being relatively benign for the banks with several years to comply with the new 10.5% capital ratio known as CET1. In July post the bank tax announcement and statements that the cost should be borne by shareholders as well as customers, one would have thought the probability of a dividend cut was quite high. However subsequent events including the negative focus on CBA make the decision line ball as to whether there will be a cut in the November dividends for Westpac and NAB.
There remains a large divergence of views on resource volumes and pricing, with particular emphasis on China. The bears think that Chinese demand for minerals including iron ore and coal is unlikely to be sustained at current levels and prices will fall in the medium term. The bulls reject this view, sighting the new Silk Road initiatives as being the equivalent of the Marshall plan in the US after the war and requiring large amounts of capital investment to ensure trains can traverse from China to Germany in less than a week. History tells us that such projects are capital intensive and result in stimulus to economic growth. Your diarist is inclined to take the view that the truth will be somewhere in the middle.
The Green Debate
For business people the green debate in Australia has been frustrating. We’ve seen politicians with little training in micro economics prescribe renewable energy targets without appearing to understand that imposing high priced renewables into the grid not only would ensure higher prices, but would also ensure a lack of investment and ultimately black outs. Politicians are great ones at prescribing to everybody else and in particular our profession what qualifications and other regulations should be imposed upon us. It may be that all politicians should undertake a compulsory micro economics and macroeconomics course before being eligible to take a seat in the various houses of parliament in Australia.
A deal of Australia’s industrial capacity was built on cheap energy. Your diarist can remember acting for the Curragh coal mine when the then premier Joh Bjelke-Petersen granted Curragh the right to export coking coal, but insisted that the steaming coal be delivered to the new power station to be built at Stanwell at cost. Some reserve policy in terms of coal and gas would also have been wise and your diarist can remember raising this at a Securities Institute evening session over five years ago. An example close to home in the next 12 months will be Gibson Island which produces fertiliser which is sold at international prices, but faces a steeply increased domestic gas price way above gas prices that would be paid by its competitors in the USA. It would not be surprising to see Gibson Island close.
There is some light at the end of the tunnel in terms of renewables and the global warming debate from what is happening internationally. To pick two significant issues: Firstly, the move 5-10 years ago of solar panel production from USA to China has resulted in a dramatic reduction in cost and increase in efficiency of solar panels with companies such as XINJI Solar becoming major corporations on the Chinese stock market. Secondly, the cost and the efficiency of wind power has also been coming down. It was reported that in the latest round of wind power contracts to be approved by the UK Government, the minister asked what was the subsidy required. Two of the tenderers replied that there was no subsidy required. It appears that the North Sea is relatively shallow and the technology exists to anchor large wind farms in the North Sea where the wind blows 24/7 with the efficiency of that production being economic. These overseas trends are supportive of economic outcomes whilst at the same time assisting the world in its search for a solution to global warming.
What are Burrell Advisors doing?
So June year end companies having now reported and tabled thousands of pages of annual reports, updates and AGM addresses. Our role is to seek companies that satisfy the criteria of good management, sound investment strategy, strong Balance Sheets, recurring earnings and low red flag risks. To use a range of research from independent analysts and to question and query that research with a critical mind and then to build portfolios which avoid the pitfalls that many unadvised investors fall into. In short, to engage in discussions with clients concerning companies and other securities that fit their risk profile and are expected to deliver satisfactory risk adjusted returns. Lastly we need to be wary of sentiment and populist measures.
In terms of X-factors, North Korea remains issue number one whilst correction in the US market is now more likely in 2018. The distance from Beijing to North Korea is the same as the distance from Brisbane to Gladstone. It is clear with the latest sanctions whereby the Chinese government is refusing to deal with corporations from North Korea, that the Chinese Government is intent on bringing North Korea to the negotiating table and avoiding war literally on its door step. Let us hope that the moves by the global community and particularly China result in a political solution to the current impasse between North Korea and the USA. That would be a good present to the markets in 2018.
Disclaimer & Disclosure: Burrell Stockbroking Pty Ltd and its associates state that they and/or their families or companies or trusts may have an interest in the securities mentioned in this report and do receive commissions or fees from the sale or purchase of securities mentioned therein. Burrell Stockbroking and its associates also state that the comments are intended to provide information to our clients exclusively and reflects our view on the securities concerned and does not take account of the appropriateness of the recommendation for any particular client who should obtain specific professional advice from his or her Burrell Stockbroking Pty Ltd advisor on the suitability of the recommendation. Whilst we believe that the statements herein are based on accurate and reliable information, no warranty is given to its accuracy and completeness and Burrell Stockbroking Pty Ltd, its Directors and employees do not accept any liability for any loss arising as a result of a person acting thereon.
This document contains general securities advice only. In accordance with Section 949A of the Corporations Act, in preparing this document, Burrell Stockbroking did not take into account the investment objectives, financial situation and particular needs ('relevant personal circumstances') of any particular person. Accordingly, before acting on any advice contained in this document you should assess whether the advice is appropriate in the light of your own relevant personal circumstances or contact your Burrell Stockbroking advisor. If the advice relates to the acquisition, or possible acquisition, of a particular financial product, you should obtain a Product Disclosure Statement relating to the product and consider the Statement before making any decision about whether to acquire the product.
Burrell Stockbroking Pty Ltd (ABN 82 088 958 481), a Participant of the ASX Group and the NSX.