For every company that upgraded their outlook during the Confession Season, for the first half of the 2019 financial year, five companies have downgraded. For the same period a year earlier, that ratio was three-to-two.
Of course, some of the recent downgrades can be attributed to insurers who are exposed to the late December hail storms in Sydney. But downgrades have also been seen from companies exposed to housing and discretionary retail.
Consequently, analysts have revised earnings lower for a myriad of companies. By way of example, Ainsworth Game Technology has seen its FY2019 consensus earnings per share revised more than 40 per cent lower, while Sims Metal’s expected earnings have been revised 20 per cent lower and Automotive Holdings Group’s 2019 expected earnings have been reduced by 13 per cent following a massive plunge in car sales nationwide since November.
Reporting season is always a time of opportunity and investors should, at the very least, be aware of the dates companies are reporting.
For the ASX200, earnings per share revision momentum has, according to UBS and FACTSET, been above average, but this has been entirely due to resources upgrades. Meanwhile Financials and Industrials have dropped to below average, and well below average in the case of Financials.
In essence two years of strong earnings growth is expected to be followed by below trend earnings growth of just 4.3 per cent this year, reflecting a combination of negative domestic factors including:
- the drought,
- accelerating house price declines,
- evaporating consumer confidence,
- plunging retail foot traffic and
- business nervousness towards both the wobbly Chinese economy, and
- the possibility of Labor winning the election.
Weaker growth may also reflect the fact that cost base reductions of the last decade have been maximised. We note that UBS reported in 2018 that 60 per cent of the top ASX 100 companies reported higher than expected costs.
In particular there is weakness anticipated from companies exposed to housing, renovating and to big ticket items such as cars and furniture. That means companies like:
- Automotive Holdings Group,
- Adelaide Brighton,
- Boral, Breville,
- Autosports Group,
- James Hardie,
- Mirvac and
And if results are stronger than anticipated for the first half among this group, one might reasonably expect forward-looking statements to be negative.
When it comes to the banks, results are likely to be overshadowed by the Royal Commission’s final report.
On the positive side, infrastructure spending has not yet peaked (although it will in the first half of this year) and this should benefit contractors and engineering firms such as CIMIC.
Meanwhile rising energy costs, while bad for consumers, should serve to boost earnings for energy retailers such as AGL. Elsewhere, sectors such as Healthcare, Consumer Staples, Gaming and Other Financials are expected to deliver near double-digit earnings growth.
Another potential positive might seem counter-intuitive; A company like JB Hi-Fi has seen its share price plunge amid fears of cannibalization from online alternatives, as well as its exposure to housing through The Good Guys. But it is also one of the most heavily shorted stocks in Australia with more than 16 per cent of its stock held short, and if results are in line with expectations (rather than worse) a strong relief or short-covering rally is possible. The possibility of relief rallies can also be considered for companies like Adairs and Super Retail Group.
Overall the market is likely to take weaker reports in its stride with much of the effects of slower global, Chinese and domestic growth now largely factored in thanks in part to the downgrades reported by companies already.
In a case of ‘how low can you go’ however, the difficulty will be forward commentary and whether further deterioration is revealed by company managements.
Hi Roger, Thank you for your wonderful insights. What are your thoughts on ARQ Group ? They report FY in a few weeks. All the best Paul
Hi Paul, my apologies for the delayed response. ARQ, since 2014 have invested a lot more than they have generated with a consequent increase in debt and equity raising. ROE is not impressive however the price has pulled back towards something closer to ‘value’.