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Weekly market update - 17th of December 2018

Written and accurate as at: Dec 17, 2018 Current Stats & Facts

Market volatility persisted last week as the local market declined -1.5% and has not only wiped out the gains but now down -4.0% for the calendar year to date. Macro factors such as China, Brexit and US rates remained in play, however it is also likely that manager replacements in local institutional investment mandates are also making a material contribution to volatility as portfolios are changed. Resources bucked their recent weakness to gain +1.7%, while Industrials were off -2.1% and listed property -1.5%.

In 2018 government intervention has proved as disruptive as any new technologies or competition to various segments of the Australian market – and recent flexing of regulatory muscles suggests this is a trend which will continue into 2019. Following on from APRA’s claims against IOOF (IFL), it was the ACCC’s turn last week as it cited concerns over the proposed tie-up between Vodafone and TPG Telecom (TPM, -14.5%) in the telecom sector. Should the deal be blocked, the mobile phone sector would return to four players, from the proposed three. It also has implications for the investment required in building out additional network: Like Optus, Vodafone employs Huawei technology in its 4G offering which will need to be replaced in its 5G network given Huawei’s exclusion. The upshot is that a decision to block the deal is likely to be challenged in court, with uncertainty over the industry structure likely to persist.

Meanwhile the Reserve Bank of New Zealand released its initial consultation paper on banking system capital, which has direct implications for the Australian Big Four banks that constitute the bulk of the Kiwi system via their subsidiaries. The RBNZ’s proposal of minimum core tier one capital raised from 8.5% to 16% - versus 10.5% in Australia – appears quite severe. However, it must be remembered that this is an initial stance and there are questions over implementation, such as whether APRA would allow banks to offset the higher capital held in NZ against their domestic level. A worst-case scenario would hit National Australia Bank (NAB, -1.3%) hardest; while only 16% of its NPAT is NZ-sourced – versus 30% for ANZ (ANZ, -3.5%) – NAB has the lowest existing capital position and would have to raise additional capital, also placing further pressure on its payout ratio. ANZ is best placed in terms of capital, however the higher allocation of capital against its NZ business could see it breach APRA’s limits on offshore capital, perhaps forcing it to partially float its NZ subsidiary. The outcome at this point would be less onerous but nevertheless earnings dilutionary for Commonwealth Bank (CBA, -2.2%) and Westpac (WBC, -3.3%) which source 10% and 13% of their NPAT from New Zealand, respectively. There is plenty of water to flow under the bridge on this issue, however it is yet another issue that the banks have to deal with in a challenging environment.

QBE (QBE, -5.1%) had enjoyed a reasonable run on the back of higher bond yields. However, the drag from a reversal in yields has been exacerbated by the market’s disappointment with the cost saving strategy outlined last week. The insurer has flagged a target of $120m of cost savings, on around $12bn of premiums, while competitors Suncorp (SUN, -2.2%) and IAG (IAG, -2.3%) are delivering close to $200m savings of a $8bn premium base. At the same time, an updated reinsurance arrangement has left investors feeling more cautious.

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