Dalton Nicol Reid. Investment Review

Transcription

1 Dalton Nicol Reid Investment Review February 2012

2 Market Wrap Monthly Performance Overview The global macro environment continued to improve during February with the ECB s LTRO program increasing liquidity and reducing near term concerns around the European financial system The Australian equity market (ASX200) finished February flat (+0.8%) with Banks and Resources both underperforming The High Conviction, Socially Responsible and Income portfolios outperformed their respective benchmarks for February. The Fixed Interest portfolio underperformed while the Property portfolio outperformed its benchmark for January. AS AT 29-FEBRUARY MONTH 3 MONTHS 6 MONTHS 1 YEAR 3 YEARS 5 YEARS INTERNATIONAL EQUITIES Dow Jones Industrial 2.53% 7.52% 11.53% 5.94% 22.40% 1.09% MSCI World Index 4.66% 9.63% 7.22% -3.92% 20.04% -2.72% AUSTRALIAN EQUITIES S&P/ASX % 4.34% 0.05% % 8.73% -5.92% FIXED INTEREST UBS Comp Bnd (0+yr) -0.21% 0.70% 2.78% 9.81% 6.22% 7.03% UBS Corp Bd (0+yr) 0.06% 1.13% 2.87% 8.18% 7.38% 7.02% PROPERTY S&P/ASX 200 A-REIT 0.89% 1.84% 3.32% -5.96% 7.43% % 2 Source:IRESS

3 Market Review Europe Efforts by the EU to stabilise the financial markets are gaining traction. US Italian and Spanish bond yields have dropped below 5%. This is important. Pre-Christmas they were faced with yields above 7%. The US economy has continued to show good progress with new jobless numbers falling to levels not seen for four years, housing showing tentative signs of a comeback and manufacturing benefiting from a competitive US$. A further boost for the US economy is coming from a reduction in their reliance for imported oil due to the rise of shale gas. Source: Macquarie 3

4 Market Review Australia The Australian share market is underperforming developed markets despite our superior performance during the GFC and low unemployment. There are a number of reasons for this: Consumer and business confidence is low impacted by a range of factors including global macro concerns, weather and political instability (something rarely seen in Australia). The high currency is placing pressure on certain segments of the economy and keeping some investors on the sidelines. Expect some improvement over the course of the year as the political situation settles. However it is difficult to see international investors becoming comfortable to come into Australia until either the currency pulls back or sentiment towards China and emerging markets improve 4

5 Reporting Season The reporting season started slowly but in the end was quite robust. We highlight the Good, the Bad and the Interesting from the reporting season: The Good Seek (stock up 26% over the month) Seek had been weak in recent months due to concerns around a fall in employment advertising. However Seek produced a very strong profit result up 27%. This has been driven by: Diversifying into new industries especially mining, Government and education A premium pricing strategy driving prices up 9%. A better than expected result from their international divisions. The market underestimated the benefit from recent acquisitions. Management provided a robust outlook statement and subsequent to the month end the ANZ job ads suggest employment advertising is more robust than many anticipated. 5

6 Reporting Season The Good (cont d) Wotif (stock up 19% for the month) Hedge Funds were excessively short this particular name and had to cover as the result beat the market by 5% and was up 14% compared to the prior period but was driven by cost cutting more than revenue growth. Nonetheless Wotif revenue appears to have troughed and they are enjoying growth once again. They have a range of initiatives at present which we believe will reinvigorate their growth outlook: WOT deals which is using the to provide voucher like travel deals Accelerating WOT flights Introducing Banner advertising Introducing rental accommodation Introducing a mobile app Introducing their accommodation to the corporate travel market Introducing package holidays to their site. Cross selling GoDo vouchers 6

7 Reporting Season The Good (cont d) Sonic Healthcare (stock up 9%) Sonic Healthcare produced a strong result up 8% with guidance re-iterated. US and Australian policies have now been established so funding cut risks has been reduced. The company is enjoying solid growth in revenues and is focused on driving margins higher by benefiting from their market leading position. Management used to be focused on growth for growth sake but is now focusing on driving improved return on equity. 7

8 Reporting Season The Bad Westpac (stock down 1.8%) The banks generally had soft results and offer little growth at present. Profit margins are being hurt by the high cost of funding and they have been hampered politically from passing on the full amount of this cost. De-leveraging and a lack of consumer confidence seems to be weighing on any appetite for lending. Balance sheets look sound and they continue to provide excellent yield for income orientated investors. BHP (stock down 2.8%) It may seem tough to describe a $9.9bn result as a disappointment, however the market always looks forward. The issue for the market from this result was the lack of progress on recent acquisitions and the sign that they have spent a significant amount of capex on shale gas in the US which will take time to generate a return. If sentiment towards China improves we will start to see more support for the stock 8

9 Reporting Season The Bad AGL (stock down 3.7%) The stock actually produced a good result with the important retail division up 12.5% and the Merchant division up 11%. The timing on profit from the sale of wind farms was below expectations but this is not of major concern. The company also re-affirmed guidance. However the market was disappointed as they also announced the acquisition of Loy Yang brown coal energy station which has been a graveyard for previous owners. We see merit in the transaction. It will reduce AGL s hedging volatility and they have picked it up opportunistically from a forced seller. They will receive more than $1bn in carbon rebates from the Government which will provide substantial cashflow to fund further expansion of their renewable portfolio. The uncertainty as to whether the deal receives regulatory approval and receives the cash from capital raisings might overhang the stock in the short term. 9

10 Reporting Season The Interesting Dividends increased 5.5% and appear sustainable given debt levels are modest. The difference between dividend yields and cash rates remain high. Smaller companies outperformed larger ones. This stemmed from a greater proportion of smaller companies operating in the mining services space. Larger companies are suffering from the currency. Two Tiered Economy Evident. Mining services was a standout manufacturing and retail continues to struggle. We saw substantial short covering over the month. In the event of a decent result or takeover speculation a number of shorts were forced to cover their position which drove the shares higher. Eg Billabong was up 63% and One Steel was up 35%. 10

11 Reporting Season The Interesting (cont d) QBE, one of our worst performers appears to have found a bottom. QBE announced their pre-released result, raised $450m dollars (with a further $150m to come) and announced that their CEO was stepping back from the business (although he will re-join the board). QBE has suffered from a range of macro factors moving against them. In the past quarter there has been a noticeable improvement in premium rates. We were concerned around QBE s underwriting result showing signs of deterioration. However the result highlighted improvements in QBE s attritional claims ratio. We have also had some concerns that they were light on capital and the capital raised goes some way to alleviating this concern. QBE has set guidance for the CY2012 at the most conservative level for many years. 11

12 Valuations Valuations continue to look attractive based on a range of measures: 12

13 New Hybrid Listings There has been a rush by companies to issue equity credit hybrids in the past 2 months, (Colonial, Origin, Tabcorp, ANZ, Woolworths, AGL and Westpac). Equity credit In order to obtain equity credit, the security must have equity like features such as deferral of coupon payments and the provision for the issuer to extend redemption to the maturity date. The issuer pays a higher margin to the holder as its cheap equity. After 5 years, if the issuer doesn t buy back the hybrid, the rating agency converts this equity to debt on their balance sheet. In all cases, this becomes expensive debt and thus the issuer will be more inclined to buy the issue back. The term equity credit means in distress trading conditions for a company, coupon payments can be deferred and maturity dates can also be extended. These new hybrids will trade as equity if we have a similar GFC mark 2 scenario. Buyers must be aware of the different terms and conditions of each new hybrid and some are more attractive and less risky than others. 13

14 New Hybrid Listings Hybrid purchasing process When comparing these new equity credit hybrids to the existing listed hybrids, we look at the following factors in determining if an investment should be made: Company balance sheet and outlook Type of fixed interest offering Liquidity issues Risk verse return Company balance sheet and outlook The most important factor of any debt instrument investment is the health of the underlying company. Dalton Nicol Reid utilizes the research and knowledge of the Australian equities market to filter out companies that do not meet debt metrics and sustainable earnings. The health of the balance sheet is a key consideration, (interest coverage and gearing ratios are used to help in the process). Companies that illustrate pricing power and monopolist qualities are preferred. 14

15 New Hybrid Listings Type of fixed interest offering The listed hybrid market is made up of many different types of issues with different terms and structures. Hybrid types include: Mandatory Converting Preference Share, (MCPS) Step up securities Bonds Capital notes Perpetual securities Perpetual Equity Preference shares Equity Credit hybrids These can be fixed or floating and rank differently on the company s balance sheet. This is an important consideration when considering an investment as the main goal is to preserved clients funds whilst generating a high running yield. Dalton Nicol Reid studies each new issue on their structure as the lower down the credit line the holder lies, the higher return the holder should receive. 15

16 New Hybrid Listings Liquidity issues The liquidity of the issue is taken into account when a purchased is made. Small issues under $150 million are too small. Risk verse return Dalton Nicol Reid utilizes knowledge in the unlisted bond market to understand the true costs of companies. Being a listed market, markets move quickly and hybrids can move to being over-priced or under-priced compared to their unlisted bonds. Dalton Nicol Reid uses these mis-pricing opportunities to help the overall portfolio. Companies turning around also offer a very good risk verse return investment in listed hybrids. 16

17 New Hybrid Listings We provide some examples below of the differences in various instruments. WOWHC Woolworths was the first to issue a new equity credit hybrid. This hybrid is classified as 50% equity credit by S&P. The margin was 3.25% over swap with a maturity of 25 years. After 5 years, there is a step up of 1.00%. As 4.25% plus the bank bill swap rate is expensive debt for Woolworths, the odds of not being paid back in 5 years is very small and thus we participated in this issue. There is no mandatory interest deferral for WOWHC. Due to the lack of quality non financials, this issue has performed well in the secondary market and is now trading at 2.43% over swap. ORGHA Origin issue was upsized from $500 million to $900 million. Due to heavy demand, the margin was set at the lower level at 4.00%. We didn t participate in the Origin deal due to the structure of this issue. The hybrid has a hard maturity date in 2071, (60 years), a step up of 1.00% after 25 years and a coupon stopper if Origin falls below investment grade. In the secondary market, the ORGHA s are trading at 4.00% due to the flood of new issues coming to the market. 17

18 New Hybrid Listings Financials We have purchased the two subordinated deals from ANZ and Colonial. We prefer to move up the credit line for financials as there is going to be more issues coming to market and sub debt issues should outperform the Mandatory Converting Preference Share, (MCPS) or Step up hybrids in the secondary market. ANZHA The new ANZ hybrid is a sub debt priced at 2.75% over swap, (unfranked). The ANZHA s is going to be rated by S&P, (A-) and thus of the $1.5 billion deal, 30% was taken by institutions. There is no interest deferral component in this hybrid. In the over the counter bond pricing, the big four bank sub debt is priced at 2.15% over swap. This should see the new ANZHA trade well in the secondary market. We are funding the ANZHA from our existing ANZPA holding. ANZPA have gone ex and have sold down to 3.28% over swap. 18

19 New Hybrid Listings CNGHA Colonial are offering investors a new floating rate subordinated note, (CNGHA), paying a margin of 3.25% over swap. The issue was going to be $500m however Colonial increased this to $1 billion. This issue is comparable to the National Wealth Management floating rate bond, (currently trading at 3.20% over swap). The deferral of interest is a very low probability as CBA cannot pay shareholders if coupons on the new Colonial deal are not paid. We prefer this to the Tabcorp or Origin deal as there is more chance of a deferral of interest on these other issues. The debt metrics for Colonial look very good with gearing at 49% and interest coverage at 7.2 times. Colonial group is a wholly-owned subsidiary of CBA contributing over 10% of the bank s annual net profit; however this new issue is not guaranteed by CBA. We have not increased our exposure to financials and will fund this purchased with the CBAPB issue, (matures in October). 19

20 Key Portfolio Exposures The reporting season has changed our thinking on the portfolio a little. Growth at a reasonable price Given a range of sectors are struggling to grow we believe that those companies which offer sustainable growth above 10% pa deserve a premium. We have been increasing our exposure to these types of companies SHL, CWN, ANN, WES, AGK, BXB. Deep Value plays We are avoiding those companies with structural issues but have been topping up companies which look oversold and can bounce as the Euro issues ease and as interest rate cuts begin to bite Wotif, Lend Lease, Hendersons, Macquarie Bank, QBE. Companies with control over destiny - We like stocks with control over destiny via cost cutting or acquisitions (QRN, LLC, HGG, BXB, MQG banks). Exposure to US recovery - Recent data suggests some resilience emerging and this suggests some opportunities could emerge in this space. Our exposure is via Brambles, Sonic Healthcare, Ansell and QBE. Chinese exposure Mining services sector has been very strong and the Australian economy will benefit from the increased volumes arising from a range of resource projects. We have exposure via QRN, Worley and Campbell Brothers. Commodity Stocks sentiment towards China is mixed at present. However value is on offer in BHP and RIO which are trading at deep discounts to valuations (which have been stress tested for a fall in commodity prices). The high currency is keeping international investors at bay at present. Banks We have reduced our position in the major banks. Growth is tepid for the major banks but they continue to offer sound balance sheets and good yields. 20

21 Disclaimer SOURCES UBS GoldmanSachs Macquarie Bank DISCLAIMER IMPORTANT NOTE: This presentation has been prepared by DNR AFSL Pty Ltd ABN , an Australian Financial Services Licensee, Licence Number Dalton Nicol Reid has used its best endeavours to ensure the information within this presentation is accurate it cannot be relied upon in any way and recipients must make their own enquiries concerning the accuracy of the information within. This presentation is not intended to provide you with personal advice and in providing this information, Dalton Nicol Reid has not taken into account your particular investment objectives, financial situation or needs. You should assess whether this information is appropriate for your particular needs, either by yourself or with your adviser. Dalton Nicol Reid expressly disclaims any responsibility or liability to anyone who acts or relies upon anything contained in, or omitted from, this presentation. Past performance is not indicative of future performance. Total returns shown are based on Dalton Nicol Reid s model portfolio and have been calculated before taking Dalton Nicol Reid s fees into account as actual performance on managed accounts is dependant on a number of factors including, but not limited to, timing of investment, blacklisted stocks and portfolio execution. No allowance has been made for taxation. Investment into managed accounts can only be made via the appropriate MDA Contract. 21