Alpha POWER Shares (Lonsec) Portfolio - February 2009
Note: Recommendations made within Lonsec Model portfolios may differ from other research published by Lonsec.
Lonsec comments on major out-performers:
CBA (+15.0%) released its 1H09 result during February.
Key Points:
Cash Profit down 16% to $2,013m (as expected due to update last week)
Cash EPS $1.46 (down 19%)
DPS $1.13 (maintained)
ROE 15% (down 5.8%)
Cost to Income 38.2% (down 3%, impressive)
Australian Bank income up 21%
Wealth Mgt down 16%
International (mainly NZ) down 4%
Impairment charges $1.6bn
Impairments mainly related to specific charges
No evidence of systemic deterioration in credit quality
Although arrears rates are trending up albeit from a low base
Total provisions stand at $3.6bn (1.79% of Gross Loans and Acceptances)
Tier 1 ratio 8.75%
Credit rating maintained at AA
Acquired Bank West and stake in Aussie Home Loans during the period
Div going ex 16 Feb 09
SPP up to $10,000 at lower of $26 or 5 day vwap up to close
2H09 expected to be more difficult
Outlook very uncertain
Final Div will be assessed at the time, no guarantees it will be maintained
Comments:
Shouldn’t be too any surprises for the market given CBA provided an update last week. As expected, the Australian Banking operations are experiencing strong growth but WM, NZ and impairment charges are keeping profits down. The Bank is in a strong position to handle a slowdown in the economy and likely increase in bad debts. There is no major deterioration in the book thus far. You have to take a very bearish view on the economy and unemployment to be selling CBA at these levels.
Based on 1H-09 EPS of $1.46, it would be reasonable to expect FY09 EPS of $2.60 which implies a trading range around $26 (assuming a PER of 10x). If we assume a payout of 80%, then DPS will be cut to $2.08 from $2.66. That implies a yield of 8% at $26.
Post the credit crisis, the major Banks now dominate financial intermediation (deposit taking and lending) in the economy. Their market share and market power is increasing each quarter. Profitability is rising as net interest margins recover. The only issue holding the Banks back is the level of impairment charges v provisions over the short-term. If arrears rise higher than expected, then provisions will need to be increased further. However, once it is clear that provisions adequately cover future impairment charges then Bank profitability will be restored very quickly.
Some commentators that are bearish on the Banks, point to the 1990-1992 experience where provisions rose to 6% of Gross Loans and Acceptances. (At this stage CBA is at 1.8%). But in 1990 interest rates were soaring to 17% and the Banks were collapsing under the weight of corporate bad debts. Clearly, conditions are much less benign this time. Not one Bank, Building Society or Credit Union is in trouble and interest rates are falling rapidly. The major uncertainty this time around is how well the economy will hold up against a global recession. Debt levels are higher but interest rates are lower, so consumers and businesses can service the debt. It is only when income is lost that debt servicing becomes a major issue.
Lonsec remains positive on the major retail biased Banks that also have a decent exposure to WM (insurance and superannuation), on a long-term view. For this reason, we retain key exposures to CBA and WBC. We suspect the traditional business Banks (ANZ and NAB) might have more issues than the traditional retail Banks, moving forward.
BUY around $26 WBC (+8.0%) provided a market update during February 2009.
Key Points:
1st quarter cash earnings of $1.2bn estimated
Total lending up 2.4% over the quarter
Australian mortgage and business lending is strong
Institutional and NZ business slower
Customer deposits up 9.6% over the quarter
Impairment charges rose to $800m in the quarter up from $144m in the pcp
Provisions increased to 0.60% of Gross Loans and Acceptances
Three specific corporate exposures (ABC Learning, Allco, Babcock) accounted for $360m of the $800m charge
Corporate and commercial portfolio seeing a rise in arrears
Consumer portfolio experiencing only a small increase in arrears
BT Financial Group impacted by poor asset markets but life insurance and wrap cash flows strong
Merger with SGB progressing well with high levels of customer retention and engagement
$13bn of wholesale term funding completed to date (about 60% of WBC’s FY09 requirement)
Over $3.8bn in core equity raised over the last 4 months
Tier 1 ratio stands at 8.3% (8.5% after recent SPP)
Comments:
A first quarter result of $1.2bn puts WBC on target for a 1H09 result of around $2.2bn which is slightly better than CBA ($2.0bn). Investors should note that WBC is now the largest Australian Bank by market cap after its merger with SGB (see table below). It is also generally perceived as the lowest risk Bank of the majors. (see chart below)
Similar to the other majors, Westpac is experiencing strong growth in the Australian Banking business but rising asset impairment charges are keeping profits subdued. While three specific charges hit the 1Q result hard, the rise in general collective provisions signals asset quality is deteriorating. The depth and length of this trend will be crucial to the performance of WBC (and all the Banks) over the short to medium term. Once provisions adequately cover bad debts and the asset impairment trend levels out, then Bank profitability will recover rapidly. Lonsec expects that individual Bank performance will start to diverge further from here depending on the general bad debt experience of each Bank, which only time will reveal. Lonsec suspects that WBC and CBA will hold up better than NAB and ANZ, with ANZ our least preferred major.
The market expects WBC to generate a FY09 profit of $4.4bn which represents EPS of $1.51 and DPS of $1.20 (at 80% payout) which implies WBC is currently trading on a forward PER of 11.2x and a dividend yield of 7.0% ff. Investors should look to BUY around $16.
Australian Banks by market cap
WBC $49bn
CBA $43bn
NAB $35bn
ANZ $27bn
MQG $6.2bn
SUN $5.5bn
BEN $2.4bn
BOQ $1.2bn
Bank provisions are rising, as a % of Gross Loans and Acceptances, but WBC is at the lower end thus far
Comments on major under-performers:
AMP (-8.4%) AMP released a market update during February.
Key Points:
• AMP expects CY08 underlying profit to be around $800m (down 10%)
• AMP reported profit to be around $580m (down 42%)
• Final dividend likely to be 16cps (down from 24cps) 85% franked
• Financial position remains strong
• Full year results to be released on 19 Feb 09
Comments:
The underlying profit estimate is in line with market expectations. The reported 2008 profit is not as bad as it looks because 2007 profit was boosted by asset sales. Reported profit has declined due mainly to lower investment income and mark to market devaluations of $260m.
Based on the above guidance, AMP will generate underlying EPS of 40cps and DPS of 40cps. However, the cut in the final div to 16cps implies a FY09 DPS of 32cps. At current levels AMP trades on a current PER of 12.7x and dividend yield of 6.3% (85% franked). Given the share-market fell 40% during 2008 and credit spreads spiked (thereby lowering the value of corporate bonds), AMP has taken a large hit to investment income but has still produced a solid result.
Lonsec retains a positive long-term view on the Wealth Management industry (particularly Super and Life Insurance) and AMP is our key pick in the sector. (Note CBA and WBC also provide some exposure). The stock is likely to rally when the market recovers. In the mean-time, investors collect a handy dividend. Investors should look to Buy at current levels.
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Warnings: Past performance is not a reliable indicator of future performance Any express or implied recommendation or advice presented in this document is limited to "General Advice" and based solely on consideration of the investment and/or trading merits of the financial product(s) alone, without taking into account the investment objectives, financial situation and particular needs (“financial circumstances”) of any particular person. Before making an investment decision based on the recommendation or advice, the reader must consider whether it is personally appropriate in light of his or her financial circumstances or should seek further advice on its appropriateness.
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Disclaimer: This document is for the exclusive use of the person to whom it is provided by Lonsec and must not be used or relied upon by any other person. No representation, warranty or undertaking is given or made in relation to the accuracy or completeness of the information presented in this document, which is drawn from public information that has not been verified by Lonsec. The conclusions, recommendations and advice contained in this document are reasonably held at the time of completion but are subject to change without notice and Lonsec assumes no obligation to update this document following publication. Except for any liability which cannot be excluded, Lonsec, its directors, employees and agents disclaim all liability for any error or inaccuracy in, or omission from, the information contained in this document or any loss or damage suffered, directly or indirectly by the reader or any other person as a consequence of relying upon the information.
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