Morningstar Magazine - February/March 2014 - (Page 31)

Australia & New Zealand Australia Four Themes Investors in Australia Should Consider By Peter Warnes The Australian stock market continues to trade around fair value after its 20%-plus rise during the past year. The rally since the middle of 2012 has been due to reduced concerns of eurozone implosion, improved global growth estimates, and unprecedented central bank stimulus efforts that have helped suppress cash and fixed-interest yields and encouraged asset flows into real assets. A market around fair value means we expect further positive returns in the next few years, but these returns will be far more modest than the gains of the last year. Gains should be similar to the average cost of equity of the companies in our coverage, that is, around the high-single-digit range per annum. Being neither particularly cheap nor expensive, the near-term direction is harder to judge. The market is exposed to sell-offs on the timing and quantum of tapering of the U.S. Federal Reserve's $85 billion per month asset purchase program, widely expected to commence in the next few months, and outcomes of the next round of U.S. budget and debt limit negotiations. Tapering could cause disruptive increases in interest rates and capital outflows from emerging market economies, but the associated fall in the Australian dollar will support the local economy. Despite expected volatility, asset flows are likely to continue to favor equities as bond yields continue to normalize. Australian economic growth will be modest while the main impetus transitions from resources investment to growth in interest-rate sensitive sectors. Consumer spending should improve through 2014, moderated by high household debt levels and job concerns, but supported by the Reserve Bank of Australia's, or RBA's 2.25% in rate cuts since November 2011, low unemployment and the wealth effect of higher house and share prices. Cases in point are CHEP pallet pooler Brambles, share registrar Computershare, blood plasma product suppler CSL, insurer QBE Insurance and medical diagnostics company Sonic Healthcare, each of which have hold or accumulate recommendations. The Westpac Melbourne Institute Index of Consumer Sentiment increased 9% this year through October 2013 and October retail sales growth of 3.6% for the year demonstrates a flow-through to spending, albeit largely to cafes and restaurants at this stage. Rates are likely to remain low for an extended period, with the RBA preferring to try to talk down the Australian dollar to provide further stimulus while recent cuts continue to flow through the economy. No-Growth Yield Stocks Will Underperform Business spending hasn't responded to the post-election spike in business confidence but stronger consumer activity and exports should see a gradual rise in non-resources capital expenditure plans. There is a rush of initial public offerings ahead of a more uncertain new year and there could be a rise in merger and acquisition activity next year considering weak revenue growth prospects, solid balance sheets and cost outs being largely complete, and this should buoy share prices. While there are few high-conviction buying opportunities, investors should focus on attractively valued, lower-uncertainty moat companies. We outline some themes investors can focus on to support strong returns in the coming year. Seek Exposure to Foreign Earnings Tailwinds are still blowing for companies with foreign earnings given improving global economies and the likelihood of: further Australian-dollar depreciation as commodity prices ease; the U.S. Federal Reserve tapering its $85 billion per month asset purchases and eventually lifting the near-zero Fed funds rate; and the RBA holding the cash rate at current levels for an extended period. Global bond yields are normalizing as economic growth forecasts improve and markets factor in stimulus tapering but ongoing near-zero short-term rates. A decent weighting to above-average, sustainable yield-producing companies is justified given the fairly valued market where a greater proportion of returns are likely to stem from income. But given our expectation that bond yields will rise further, we encourage investors to own stocks with yields growing at least with inflation, as no-growth yield stocks will be increasingly unpopular. Higher-yielding stocks with growth above inflation are gas pipeline owner APA Group, shopping centre investor Federation Centres and global shopping mall developer/owner Westfield Group, all with hold recommendations. A Strengthening Australian Consumer Will Support Retail Activity We expect discretionary consumer spending to improve modestly through 2014. We favor consumer staples retailer Woolworths on valuation and quality grounds. We see little value in consumer discretionary stocks generally where share prices now reflect growth that will be difficult to achieve. Building products and materials suppliers will benefit from improving housing. Housing should continue its slow recovery supported by low interest rates, low unemployment and rising asset prices. Dwelling approvals rose 23% in the year to October 2013, driven by lumpy high-rise projects, with residential approvals up a reasonable 9.6%. Australian building materials and products suppliers Adelaide Brighton and CSR will benefit, as will James Hardie Industries which is leveraged to the continuing U.S. housing global.morningstar.com/Morningstarmagazine 31 http://global.morningstar.com/Morningstarmagazine

Table of Contents for the Digital Edition of Morningstar Magazine - February/March 2014

Morningstar Magazine - February/March 2014
Contents
Contributors
Letter From the Editor
Preparing for the Next 50 Years
Morningstar Managers of the Year
Fixing the Trust Deficit
Rethinking the Path to Retirement
Trends
Same Old, Same Old
Global Briefs
The Economic Implications of an Older World
Banking on Performance
Is the Affordable Care Act Healing Health Care’s Woes?70
Baxter Has a Positive Prognosis
Leading Fidelity’s Charge for RIAs
Our Favorite Mutual Funds
50 Most-Popular Equity ETFs
Undervalued Stocks With Wide Moats
Moving the Goal Post

Morningstar Magazine - February/March 2014