Investment Matters

What Matters this week

The market stabilised this week as opportunists and bargain hunters alike took advantage of last week’s ‘risk-off’ selling. The VIX (a measure of market volatility) dropped from its peak of 25 last week to 17.4 this week. We may, however, see more volatility in the future – the issues that spooked investors last week are still lingering in the background (take a deep breath): rising US bond yields, the ongoing Sino-American trade war, Italy’s anti-austerity budget and tensions between Saudi Arabia and the US (and the potential impact on oil prices).

September labour force figures for Australia beat expectations – with unemployment dropping to 5.0% - below expectations of 5.3%. There is still plenty of spare capacity in the workforce however with underemployment remaining at historical highs. Furthermore, we are yet to see signs of wage growth – something that the RBA is waiting for before it lifts rates.

We learned this week that diamonds may be forever – but earnings certainly aren’t – group revenue for jeweller Michael Hill (-25%) dropped 9%, with like-for-like sales down 11%. It seems the group has not been too successful in convincing consumers to part with more money for their jewellery, after abandoning its discount-based pricing.

In another blow to brick and mortar retailing, menswear retailer Roger David was put into administration on the back of increased competition from international fast-fashion retailers and rising rents.

From little things, big things grew – Wesfarmer’s (+1.5%) Coles announced sales increased 6% for the first quarter of FY-19 thanks to its “Little-Shop” campaign. With a targeted payout ratio of 80-90% post demerger, don’t expect Coles to be throwing many free goodies your way in the future.

Banking analysts put a $6 billion price tag on the fallout of the Royal Commission for the big four banks and AMP. This figure however only considers the costs of consumer refunds, reviews and litigation - it does not include the potential impact recommendations may have on future earnings (did we mention we don’t hold the banks?).

Meanwhile the sector continues to wash its dirty laundry in public: AMP is cutting back on riskier lending and mandating stricter loan documentation (i.e. more in line with responsible lending obligations) from mortgage brokers (prudence and responsibility? AMP? Are you sure?) while NAB (-0.7%) estimated customer remediation costs to total $314m after tax.

Further signs of property price weakness emerged, with brokers downgrading their target price for Domain (-4.0%) based on weak first quarter market growth – with ad volumes for VIC and NSW down markedly. Shares in REA Group (realestate.com.au) also fell on the news. This was coupled with auction clearance rates of 48% nationally over the weekend, a level close to the lower bound for the last decade. In short: fewer people putting their homes on the market and weak demand for those that are.

The market also sold down Nine and Fairfax on the back of Domain’s weak volume. This and last week's sell-off left Nine trading at a price that effectively offered no premium to Fairfax shareholders (who received a larger share-based offer) - prompting both chairmen to reiterate that the deal is still going ahead.

Shares in pay-day lending (Cash Converters down 14%), debt management and ‘buy now, pay later’ firms (Afterpay down 12%, zipMoney down 7%, et al) took a hit on Wednesday as they (finally) appeared in the cross-hairs of regulators.  (Regulatory risk was noted as one of First Samuel's concerns re Afterpay.)  A senatorial inquiry will begin in December that will subject these firms to the scrutiny that they managed to escape during the Royal Commission. Shares rebounded, however, on Thursday with several analysts reaffirming their price targets.

Lastly, Telstra continues to grapple with shareholders over management remuneration (shares are down 16% for the year and you expect to be paid how much?) as the Communications Union remains up in arms (labelling CEO Andy Penn a “Penn-y pincher” – top marks there). In a master stroke of diversion, chairman John Mullen signalled that InfraCo (Telstra’s proposed infrastructure arm post demerger) is the “natural” owner of NBN Co when it is privatised. The question which remains is when and at what price – are the government (and its successors) willing to write down NBN Co and admit the entire exercise has been a disaster?

- Paul Grace