February results were broadly in-line despite ongoing systemic risks (housing slowdown, weak consumer, intensifying regulatory and political risk). Capital management upside was dominated by Resources, while Industrials appear to be holding back some dry powder given their challenging outlook, themes we recently discussed in this wire.
February's rally suggests investors had feared an escalation of these, and the lack of any significant "new issues" for Corporates certainly added fuel to the relief rally. However, expectations for FY19 corporate profits (ex-Resources) eroded further and sees the market tracking toward a very tepid looking 4.1% compound annual growth in profits over the next three years. This contrasted a sharp lift in valuations, with the ASX200 Industrials 12-month forward PE recovering to pre-selloff levels at approximately 16.1x.
Taking some profits...and one addition to our list this month
Strong price performance in February sees us remove Oz Minerals (OZL) from our list this month. Upside to our OZL valuation has reduced to below 10% following OZL's strong run. OZL remains a comfortable portfolio Hold, and we would use any bouts of macro or market weakness as a buying opportunity. For much the same reasons we have removed Cleanaway Waste Management (+20% return in February) and Lovisa Holdings (+40% return in February). As per OZL, both CWY and LOV remain comfortable portfolio holdings.
We have added Sonic Healthcare (SHL) to our list this month. We see SHL as ideally positioned as a global diagnostic and pathology provider, backed by defensive earnings, growing scale and a strong balance sheet. We forecast high single digit earnings growth from 2021. The recent strategic Aurora Diagnostics acquisition not only increases scale in anatomical pathology, but also offers cross-selling opportunities in clinical pathology, supporting margin uplift and profit growth. Sonic's valuation is currently in-line with its historical average and offers a 3.7% fully franked dividend yield.
Five high conviction stocks in March
Our high conviction stocks are those that we think offer the highest risk-adjusted returns over a 12-month timeframe, supported by a higher-than-average level of confidence. They are typically our preferred sector exposures.
Here are our five high conviction ASX100 stock picks this month:
Sonic Healthcare (SHL)
Sonic Healthcare is an international medical diagnostics company, offering laboratory medicine/pathology and radiology services to the medical community.
Key reasons to buy Sonic Healthcare
- We see SHL as ideally positioned as a global diagnostic and pathology provider, backed by defensive earnings, growing scale and a strong balance sheet. We forecast high single digit earnings growth through 2021.
- SHL's valuation is currently in line with its historical average 12-month forward PE multiple of 18.5x and offers a 3.7% fully franked dividend yield.
- The strategic Aurora Diagnostics acquisition not only increases scale in anatomical pathology, but also offers cross-selling opportunities in clinical pathology, supporting margin uplift and profit growth.
Oil Search (OSH)
Oil Search is a major oil and gas developer/producer. Its key asset is a 29% interest in the world-class PNG LNG Project/Development, operated by ExxonMobil.
Key reasons to buy Oil Search
- We continue to rate OSH as a top large cap pick in oil and gas based on the strength of its earnings and quality of its growth profile.
- Despite a challenging backdrop, OSH and its partners have continued to make progress on its global-scale organic growth profile, with high margin/value growth from expansion of its PNG-based LNG operations and the upsizing and development of its large greenfield oil project in Alaska (also high margin)
- We view OSH's current share price as adequately reflecting the value of existing production from PNG LNG T1 & T2 operations, while we believe the market remains too conservative on the upside potential of both the PNG expansion and Alaska projects.
RMD is a global company involved in the development and manufacturing of medical products for the treatment and management of respiratory disorders, with a focus on sleep-disordered breathing.
Key reasons to buy ResMed
- The company remains well positioned in our view, with continued growth across masks and devices, a solid pipeline of new products and an expanding digital platform helping to drive resupply, low setup costs and improve adherence rates.
- Q2 was a little softer on the top-line but quarters tend to be quite volatile. We were impressed by the margins achieved – a sixth straight quarter of improving leverage and double-digit operating income growth. This continues to reflect the strength of the global business modal.
- RMD targets a very large potential market opportunity. The National Heart Blood and Lung Institute estimates that 12 million Americans suffer from sleep apnoea. According to RMD, fewer than 4 million are diagnosed or treated each year.
Reliance Worldwide (RWC)
RWC is the world's largest manufacturer of push to connect (PTC) plumbing fittings and specialist water control valves.
Key reasons to buy Reliance Worldwide
- RWC hold the #1 market position in a number of product categories and is the clear market leader in the US with 80% market share (on a volume basis) in the PTC fittings market.
- It has a stable earnings growth profile focused on the less cyclical residential R&R sector with operations in North America, Asia-Pacific and Europe.
- PTC fittings penetration in the US is around 12%. Given its strong value proposition we believe there is still a lot of potential for further penetration of the category over the long term.
Westpac Bank (WBC)
Westpac is Australia's oldest banking and financial services group, with operations throughout Australia and New Zealand.
Key reasons to buy Westpac
- WBC has a relatively low risk profile in terms of loan book positioning and low reliance on treasury and markets income.
- The bank stands to benefit most from re-pricing of investor home loans.
- Strong captal position and sound asset quality support the dividend. WBC reported a CET1 capital ratio of 10.6% at 30/09/2018, already above APRA's 'unquestionably strong' benchmark of 10.5%.
Contributed by Andrew Tang from the Morgans blog.