Weekly market update - 30th of August 2021
Written and accurate as at: Aug 30, 2021 Current Stats & Facts
We have seen positive developments on two fronts in the past week.
Firstly, Fed Chair Jerome Powell was relatively dovish in his Jackson Hole speech, calming fears of aggressive tightening.
Secondly, there are signs that Covid cases may be peaking in the US.
In response, we saw bond yields rise slightly in a controlled manner, commodities rally and equity market gains. The S&P/ASX 300 rose 0.57% and the S&P 500 1.54% for the week.
The domestic reporting season remains a small positive.
Last week’s theme was the return of the unloved. Some of the re-opening stocks rallied as investors got a better gauge on near-term risks and were prepared to look through them.
We see four key issues facing markets:
- Economic growth: Having reached peak momentum, do we see material downside surprises due to fiscal cliffs and the re-emergence of structural issues?
- Covid: Does a combination of the Delta variant and waning immunity lead to an environment of perpetual new waves that require ongoing restrictions, limit the service sector recovery, hit confidence and lead to weaker growth?
- Inflation: Will it be higher than expected if recent drivers prove to be more than “transitory” and a tight labour market drives wage growth?
- Policy: Is there a risk of policy mistakes as central banks exit quantitative easing (QE) and attempt to reconcile the need to anchor inflation expectations and support growth?
The Fed’s policy
The minutes of the last FOMC meeting indicated that QE tapering would occur sooner than previously indicated.
Cautious statements from some committee members raised concerns that Powell may have struck a more hawkish tone.
While Powell did clearly suggest tapering is coming this year — probably announced in November and started in December — he also signalled:
- There is almost no chance of tapering in September
- The Delta strain is a clear risk to growth, which may offset the impact of positive employment data on policy decisions
- The decision to taper is distanced from the decision on rates. Rate rises may not follow on the heels of QE tapering as quickly as many expect
- He still sees recent inflation as transitory.
The analogy is that, in taking the foot off the accelerator of QE, the Fed is not yet ready to start pumping the brakes of rate rises.
At this point, the risk of a 2013-style taper tantrum seems low pending unemployment or inflation data does not materially surprise.
This time around, the Fed has been cautious about seeding the market and managing expectations.
Tapering looks set to align with a reduction in the issuance of treasuries as stimulus measures fall away. Meaning an oversupply issue is unlikely.
Economic outlook
US savings rates have fallen from close to 35% at the peak of early 2020 to a more normalised rate of just under 10%. But this is still well above post-GFC levels. Spending on goods appears to be rolling over from very high levels in the US. It will be important to see how far this falls in individual sectors. But we are also mindful that spending on services has only just returned to pre-Covid levels and is still well below trend growth. Delta may see some near-term pressure on this, but longer-term, this is an additional source of spending growth in the US.
In Australia, retail sales have fallen quickly. Annualised growth was -15% in July, down from -1% in June. Much of this is driven by NSW, where sales fell 35% in July. By comparison, sales were up 11% in Western Australia. This highlights the risk in areas such as household goods, which are still well above-trend growth levels. Some 36% of Australians were under lockdown in July — and likely around 50% in August.
At this point, Q3 GDP is expected to be down 3-4%. CY21 is now likely to step down to just over 1% GDP growth. These near-term issues will affect growth and earnings, but it is clear there is still a lot of confidence in corporate Australia. This is evident in capex intentions outside the mining sector, which continue to rise.
Covid international outlook
Most regions are seeing a stabilisation in case trends. Europe has so far avoided a Delta wave similar to that seen in the US and UK, reflecting ongoing caution in re-opening rules. Israel continues to experience a surge in cases. But the number of hospital patients has stabilised at just over half the January peak.
Markets are focused on the US wave because of its potential to affect the global growth outlook. Here, we have seen an increase in reported cases case growth, albeit a decline in hospitalisations. Risks remain with the return to school. But there is evidence that the peak is close.
The effective reproduction (R eff) number — which measures the average number of people an infected person goes on to infect — has fallen below one in some first-hit states such as Florida. Testing positivity numbers have also started to fall.
It is becoming apparent China is continuing to get on top of its Delta outbreak. The number of districts categorised as “mid-risk” has halved from the peak. This is also helping sentiment on global growth.
Covid in Australia
Australia is now reaching vaccination levels equivalent to the peak levels in other countries. Some models suggest that at the current R eff of 1.34, NSW cases will peak in late September at about 2500 per day. If restrictions lead to an R eff 0.06 lower, the peak could be below 2000 per day. As vaccination starts taking effect, case numbers could drop quickly, back to 300 per day by the start of November and negligible by December. The same analysis for Victoria implies a peak of 400 cases per day in early October at the current R eff of 1.36. While modelling of Covid has often proven wrong, this highlights that we may be facing a significant bow wave of new cases in September.
Markets
Powell’s speech helped push all markets higher and increased breadth. Growth and value sectors both rallied last week. Key commodities bounced from oversold levels. Copper rose 4.4% and iron ore 10.1%. Brent crude was up 11.5% as Kuwait flagged a potential pause on output increases. The AUD gained 2.5% against the USD. We saw a recovery among lockdown-affected stocks partly due to a better macro sentiment but also resulted from the greater context around the near-term risk. In several instances, the market has been reassured by management’s reminders about how quickly demand bounced back after restrictions were lifted.
Good results
Wisetech (WTC, +29.3%) beat market expectations, triggering a squeeze in a heavily shorted stock. Cargowise's revenue grew 42% in the second half, and management guided it to another 30-40% growth in FY22. The overall revenue outlook was in line with expectations, but margins were 4% higher. This appeared to be cost-out. It remains to be seen whether WTC can sustain the growth along with cost discipline.
Qantas (QAN, +21.2%) emphasised how well it had been travelling before lockdowns, demonstrating the appetite for domestic flying once restrictions are lifted. Debt has dropped $500 million from its peak. Management pointed to cost reduction ahead of schedule and reiterated domestic business margin targets that existed pre-Covid, despite a likely mix shift from business to leisure.
Nothing was surprising in Viva Energy’s (VEA, +7.2%) result. But a $100 million buy-back demonstrated they are managing their business well in a challenging environment. Fuel demand is one area that rebounds very quickly post lockdown.
Ampol (ALD, +1.3%) announced a bid for Z Energy, which effectively is a replica of ALD in New Zealand. Z Energy is going ex capex as it moves to a fuel import model. If the deal goes ahead, it will be about 20% cash flow accretive for ALD.
Toll-road operator Atlas Arteria’s (ALX, +7.3%) revenue trends were better than hoped. Light traffic picked up in France as Europeans went on holiday, and heavy vehicles remained high. After a slow start, France is better vaccinated than most European countries and is making a concerted effort to return people to offices.
Scentre Group (SCG, +9.4%) was yet another lockdown-affected stock that demonstrated good trends before July. Re-leading spreads had been running better than feared in Q2, as had occupancy. This suggests physical shopping may not yet be a thing of the past.
Pushpay (PPH, +8.6%) — announced a mid-sized but important deal with US company Resi Media. Resi specialises in streaming software and is focused on faith-based organisations. This will give PPH opportunities to cross-sell and deepen its product offer.
OK Results
Wesfarmers (WES, -5.8%) delivered 10% revenue growth and 21% earnings growth in FY21. However, the stock has performed well on more than a 30x P/E multiple. The result demonstrated that lockdowns are biting on Kmart and Bunnings. It also now faces the challenge of cycling last year’s strong numbers. Management delivered a large buy-back, but consensus expects earnings to weaken this year, leaving little valuation upside.
Woolworths (WOW, -2.5%) delivered flat earnings — as expected — as they cycled a strong FY20. Management announced a $3 billion buy-back. But the market is focused on the increase in capex to build out the online proposition. While overall sales were flat in 2H FY21, online grew 60%. This implies store sales were down 3%. There is a land grab building in online sales between WOW and Coles, with the resulting drag from capex potentially implying little upside for a company on more than 30x P/E.
Softer results
A2 Milk (A2M, -9.7%) continues to clear inventory out of the Chinese market, driving volumes and margins lower and leading to 20-25% earnings downgrades for the next year. The stock is still above 35x P/E, with the market placing value on the brand. The challenge is a tussle for share with local brands in an overall declining market as Chinese birth rates fall.
Nine (NEC, -6.8%) delivered a reasonable result. The revenue outlook was good, but the expectation of higher costs spooked the market. There appears to be a concern that the company is losing recent cost discipline. Some of the cost increase is a normalisation following savings linked to Covid, while at Stan, there is a lumpy nature to costs, reflecting output deals with studios.
The contractors also reported.
Monadelphous (MND, -6.4) delivered better revenues than expected, but its margins disappointed as broader controls affected labour costs. This may be a temporary issue, with higher costs reflected in the terms for new contracts. But the market is not looking through this issue at the moment. The medium-term outlook is likely to be positive given the ongoing capex required in the iron ore industry. The market is also looking for some form of capital management, given a solid balance sheet.
There are signs that Seven’s (SVW, -8.8%) Westrac business is beginning to slow after several years of strong growth. The balance sheet is also heavily geared following the Boral (BLD) acquisition. The underlying trends in BLD were poor domestically. At this point, SVW is a cyclical stock where the cycle is no longer working in its favour.