Good afternoon,

ASX200 down 1.20% for the week, the biggest move in a little while. Index still up near 6,300 points though and this week Telstra (TLS) and the Telco sector dragged it higher. Banks and utilities the worst performers. Apologies in advance for all the typos, it’s 10pm and I cannot be bothered proof reading this note.

ASX 200 Resources index as fallen 300 points (c.6%) since the start of August, whilst Non-Resources companies (the ASX 200 Industrials Index) has only gone backwards 1-2%, resulting in the Industrials outperforming the total ASX 200.

Burning the midnight oil (well, 10pm-oil) tonight after what’s been a pretty hectic day of meetings, calls and organising a bunch of “Seneca” company stuff. Pretty tough sometimes juggling the analytical side of the job (looking at companies, analysing stocks), the client/relationship component and the more commercial/management type commitments. It’s a difficult, yet highly rewarding juggling act. I wouldn’t have it any other way.

Anyway, thought I’d have a look at some earnings, resources vs non-resources etc. given it’s reporting season. First, here’s the analyst earnings forecasts, indexed at 1 Jan 2018.

Business conditions are continuing to improve, which underpins earnings revisions and has continued to drive markets higher, though revisions have turned more recently (as per above).

Reporting season

…has been pretty good, but there’s been some wild moves on missed earnings and conservative outlooks. I kind of think management are ‘hedging’ a little bit with this years outlook/guidance, unsure what market conditions hold for the future for lots of reasons we’ve discussed over the past 12 (maybe even 24 months) in this note. Wages, inflation, interest rates, consumption, housing cycle… there’s plenty of to worry about though the data seems to (generally speaking) support continued moderate rates of economic and profit growth. There’s surely some opportunity over the course of the next 3 months to make money by checking in with management to see how the first quarter/6 weeks have played out, as I’ve got a sneaking suspicion, based on current operating momentum, that 1H’19 will be need an upgrade or two.

Below is a truncated (and slightly tweaked to remove big outliers) graph of changes to FY2 earnings estimates post-reporting (now vs 1 July). COE, NAN, HUB, WEB, ALU, NGI, IEL, LOV, REA, CCP, QUB, KGN and CSL all had pretty sizable increases in expectations for profits whilst WHC, SBM, S32, FMG (all resources names) and PGH had significant negative revisions.

Switching to changes in price target over the same period, Afterpay (APT) being chased higher by analysts with the PT up 120%. COE, IPH, WTC, FXL, WEB, BPT, RWC and SWM also had strong upward changes to their valuations.

PGH, PRY, KGN, MGX, AHG, SGM and AGL, not so much with price targets now meaningfully lower than they were on 1 July.


Number Crunching

I ran a bit of analysis during the week, back testing a bunch of new and old factors from 30 June 2008 through to 30 June 2018 across the ASX200

For those who are playing catch up, what this means is I look at a bunch of ratios and statistics (factors) around stocks through history, work out which factors matter most, which ones matter least, in predicting future stock price returns.

And whilst I intend to run similar tests against specific, more limited universes of stocks (which is where I’ve found the material leaps forward in understanding in previous attempts), there was still a few interesting points:

What drives short and long term returns varies. 5 and 10 year returns are significantly impacted by business quality, relative value and sustainability measures more so than say 6 month or 1 year returns. Unsurprisingly, short term, price momentum matters a lot more than over 5 or 10 years.

Analyst opinion matters. You’ll find it hard to pick stocks if you don’t have a clear understanding of earnings and price target revisions. Ironically, despite being targeted at long-term fundamental investors, the matter far more across 6m and 1 year horizons than very short or very long investment periods.

Beware acquired intangibles. Over the long term (10 years) companies who have high rates of growth in their intangible assets perform worse than those that don’t. Investing in roll-up stories is great… until it isn’t. Take profits whilst you can!


Movers & Shakers

Telco M&A activity plus TLS-hope drove up that sector with HTA apparently going to merge with TPG. High growth/valuation names did well after Wisetech (WTC) reported reasonable revenue growth and ALU/APX didn’t disappoint. Webjet (WEB) continues to be a business I do not undestand, Flexigroup (FXL) didn’t die as expected and hence re-rated, Codan (CDA), IDP Education (IEL) had strong results whilst Ooh! Media (OML) got the all clear from the ACCC for its Adshel acquisition.

iSentia (ISD) is a perfect example of a business I never understood (like Webjet) but was a darling until it was a dog. GWA ex-dividend and probably with the easy runs on the board (though still very well run), Costa (CGC) had a little hiccup with berry production and Flight Centre (FLT) did what it always does after impressing the market for 12 months (disappointed) and gave up most of its gains for the year in a week. I don’t care how many old people buy cruises, I will never invest in FLT because their business model is made redundant by this thing called “the internet” and Webjet is a search engine to go buy flights cheaply direct from the airline. Sorry. No one is convincing me otherwise.

Ooh, and Westpac (WBC) got hit because bad and doubtful debt expense was higher than expected and net interest margins declined from 2.17% to 2.06% in Q3 (this is quite a lot). Funding costs were to blame…. I can’t read tea leaves but I reckon variable rates are about to go up in this country (out of cycle), just at the same time as we have the biggest interest only to P&I reset in a decade… seriously concerning for property prices, consumption and ‘the wealth effect’.
Have a good week,
LL