Ups and downs in reporting season

What can we expect when earnings season hits full throttle next week?

To assess today’s stock valuations you have to take into account that long-term bond yields are at exceptionally low levels.

Welcome to this year’s reporting season which will hit full throttle in the weeks ahead. Where do we stand?

Well, the broad sharemarket is estimated to deliver growth in earnings per share (EPS) of between 3 and 5 per cent this year. This looks a lot better than the negative number for FY19.

Similarly, the number of profit warnings this time around has been well below the numbers seen before February last year.

Earnings estimates have been trending upwards leading into February, but only because of upward adjustments to forecasts at resources companies. If we exclude miners and energy producers the underlying trend remains negative, predominantly because of small cap stocks that have been hit by bushfires, lacklustre consumer spending or the coronavirus fallout.

In a break from traditional patterns this year some analysts are optimistic that by March average growth expectations might have actually increased slightly. We’ll have to wait and see.

I expect to see solid contributions from the technology sector and from industrials, which also includes healthcare and the food and beverages sector. Financials are expected to perform weakly and that goes for banks, as well as for insurers and asset managers.

Health insurers in particular seem under the pump, with both NIB and Medibank Private having issued a profit warning.

Airlines, airports, tourism and leisure operators and casino owners are all expected to issue cautious statements due to the known unknowns from the coronavirus impact.

The potential impact of coronavirus also looms over booking agents such as Webjet and Flight Centre. Expectations are equally low for traditional media companies.

Infrastructure owners are enjoying the benefits from cheaper funding costs, but selected assets such as airports might have been affected by bushfires and other weather-related events. Utilities, as a group, are positioned for negative growth, while REITs look unspectacular, but solid.

In property-related stocks a lot hinges on the sustainability of the uptrend for property prices and the follow-on impact for construction activity. This not only feeds into optimism for retailers such as Harvey Norman, GWA and Reece, but equally so for Super Retail, Autosports and Automotive Holdings, as well as for the likes of Adelaide Brighton, Brickworks, CSR and Genworth Mortgage Insurance.

Stockbroker Morgans has already expressed confidence in local specialty retailers, suggesting the environment for consumer spending is better than last year, which should allow the sector to release “OK” reports this month. Morgans’ top picks are Adairs, Baby Bunting and Bapcor.

Bulk commodity producers BHP, Rio Tinto and Fortescue are all swimming in cash, offering ongoing potential for enlarged payouts to shareholders.

Big miners had been poised for strong period until the coronavirus appeared. Now the anticipated slowing in Chinese demand is putting a big question mark over the sector.

Confession season prior to February has seen a number of companies issuing profit warnings, including the general insurers and a number of retailers, on top of eye-catching disappointments from the likes of market favourites Treasury Wine Estates and Nearmap.

Winners and losers

UBS sees potential for upside surprises from BHP and Fortescue, as well as from Charter Hall, Goodman, Dexus Property and Mirvac.

Morgans has also nominated Australian Finance Group, Infigen Energy, Telstra, Afterpay, QBE, Santos, Generation Development, IDP Education, Mainstream, Pro Medicu sand Megaport for a positive surprise.

Macquarie sees upside potential in A2 Milk while market consensus seems too high for Suncorp, IAG and Medibank Private — all insurers — as well as South32 and Newcrest Mining.

Across the board the odds indicate potentially disappointing updates from Southern Cross Media, Seven West Media, HT&E, Domino’s Pizza and Inghams, as well as Scentre, Vicinity Centres, Lendlease, Flight Centre, Crown Resorts and Star Entertainment.

Other stocks mentioned in broker reports with a negative bias include BWP Trust, Cleanaway, OZ Minerals, Regis Resources, Qantas, Boral, Iluka, Qube, Whitehaven Coal, Reece, Adelaide Brighton and Brickworks.

UBS calculated recently the average price/earnings ratio for industrials excluding financials in Australia has re-rated upwards to a multiple of 25 times. The broker suggests this is the highest seen in Australia since at least the 1930s.

But to assess today’s stock valuations you have to take into account that long-term bond yields are at exceptionally low levels. Low bond yields push up valuations elsewhere.

Investing in the market today is attractive on the premise that bond yields will not make a sudden step-jump higher. Were this to happen, it wouldn’t just hit the share prices of quality and growth stocks, but of markets generally. And as witnessed during the brief bear market of late 2018, cheaper laggard stocks will fall just as hard as those that have outperformed.

Rudi Filapek-Vandyck is the editor of wiww.fnarena.com