We have previously noted the spread in consensus forecasts was very narrow and the potential for beats and misses versus market expectations was lower than normal. It is this dynamic that foreshadowed many of the results across our coverage universe, where results were mostly in line with expectations.
Earnings momentum was mixed with no clear directional trend and it is clear market rotation rather than breakout has defined the Financial Year 2018 reporting season – we’re still waiting for the circuit breaker. Results mostly shrugged off the systemic risks that posed a threat to earnings heading into August e.g. housing slowdown, weak consumer, intensifying regulatory and political risk. No bad news was welcome news and investors suitably put cash to work by backing solid inline results.
Expectations for Financial Year 2019 corporate profit growth were revised lower by 0.7 per cent over the course of reporting season to 7.2pc, or 8.2pc if we exclude banks and financials. The market valuation stayed flat at 15.6x 12 month forward price earnings, from 15.8x.
On the whole, the small to mid cap market, excluding the top 50 companies stood out with 20pc beating consensus expectations but also 20pc missing. Large caps saw more inline results (4pc beating, 19pc missing) given the regulatory risks facing the key sectors of financials and utilities.
Themes that we believe will set the tone for the rest of the year
Business conditions in reasonable shape – The robust business surveys were reflected in the mostly upbeat tone across the results. While results were good, they were not hitch-free. Inflationary pressure and increased regulatory oversight continue to weigh on some sectors; nonetheless, the economy remains on much firmer footing and management teams are pointing to more of the same in Financial Year 2019
Cost inflation increasingly harder to ignore – Rising costs were a recurring theme and are not going away. Profit margins are likely to come under pressure from higher input, energy, wage and interest costs over the forecast period. Margins are already at 10-year highs which may expose some industrial names on already elevated valuations.
High flyers continue to soar – The market’s attraction to tech and ‘market darlings’ was on display in August, with this basket of companies re-rating by a median likely to come under pressure from higher input of 10pc (12mf PE). It’s no surprise that the valuation divergence between high PE and low PE stocks widened again; we think this is unlikely to be sustained in the context of rising costs and flat to negative earnings revisions.
Value not dead after all – Sectors that have experienced structural competitive overhangs found good support e.g. Media (OohMedia, Seven West Media, Fairfax Media), Telco (Telstra, Vocus, Superloop), Retail (JB HiFi, Super Retail Group, Beacon Lighting, Baby Bunting). A combination of elevated cash balances and results that were nowhere near as bad as feared allowed for some rotation into the ‘value’ end of the market.
Regulatory pressure keeps buyers away – The overhang from the Banking Royal Commission combined with increasing wholesale funding costs was enough to keep buyers away from the banks who were all marginally de-rated across August. The shifting political landscape created uncertainty around the composition of the NEG which weighed on the utilities sector.
The resource cycle is maturing – Resources and energy companies largely delivered as expected in August, with higher earnings flowing through into higher dividends and capital management initiatives. Macro issues have driven the recent de-rating, presenting compelling accumulation opportunities among our favourites.
Telco getting a clearer reception – After several years in the sin bin, the telco sector has started to generate investor interest. From a share price perspective, investors are now reassessing their previously mostly negative views in light of the rationalisation of industry and more sustainable pricing.
- Boh Burima MAppFin, B.Econ, CFP®, Adv Dip Fin Serv Private Client Adviser | Authorised Representative: 000341081
