There are always downgrades occurring for a range of structural or cyclical reasons. Woolworths is an example of a shift in industry structure with the entry of a new competitor in Aldi with a strong business model. Looking for shifts in industry structure, regulation or the cyclical operating environment helps identify these earnings risks. We also use a range of quantitative tools to identify trends in earnings changes, which can give valuable insights in terms of which companies are at risk of earnings downgrades. The banking sector is currently going through a shift in the regulatory structure. After decades of strong credit growth and falling capital requirements, APRA has reversed the trend for the banking sector. Increased capital requirements are pressuring return on equity and tighter lending standards are slowing growth. Recommendations for further changes are due from the Basel committee at the end of the year. We are also moving into a Federal election, where if Labor wins and changes negative gearing rules there could be downside risks for the banking sector. (Sean Fenton, Portfolio Manager, Tribeca Investment Partners)
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