Henderson Global Investors head of Australian equities Lee Mickelburough provides a wrap-up of reporting season and the key themes and factors that drove results.
Despite the positive lead up of a 6.4 per cent rally in the S&P/ASX 300 Accumulation Index in July, reporting season proved disappointing, with companies more often missing consensus earnings expectations than beating them. As a result, the market traded down for the month.
The importance of good management was once again evident, as companies delivering on cost out and restructuring programs, such as BlueScope Steel and Sims Metals, continued to perform well.
These companies’ ‘self-help’ initiatives have enabled them to navigate challenging industry conditions.
Challenges are arising for the interest rate-sensitive sectors such as REITs, utilities and telecommunications.
While still enjoying a background of record low interest rates, share price rallies have made it increasingly difficult to justify the valuations of the companies within these sectors.
Even companies we consider to have superior business models such as Transurban and Macquarie Atlas Roads Group underperformed post the release of their results.
Capital management remains a key focus for investors. Companies have become conditioned to the expectations of investors with regard to dividends and understand their importance.
As such, there were few instances of companies significantly reducing cash returns to shareholders and the pay-out ratio of the market remains at elevated levels.
Companies with service operations exposed to the materials and energy sectors experienced significant rallies leading into reporting season as the market bet on the bottom of the resources cycle.
Monadelphous (up 41 per cent), Downer EDI (up 9.7 per cent) and ALS (up 4.3 per cent) all rallied in July and, while the share prices of these stocks varied post-reporting, each outperformed the market for the July/August period.
Investing with the intention of benefitting from the aging population has not proven to be straightforward.
While private hospital providers (Healthscope and Ramsay Healthcare) and retirement village operators (Aveo Group) performed well, aged care providers (Estia, Regis and Japara) significantly underperformed.
In our view, the key issue with the aged care providers is a primary mismatch between their high growth aspirations and the inherent risk embedded in the structure of their funding model, due to the amount of gearing they carry and the regulatory risk involved.
From a valuation perspective, high PE companies that missed expectations were punished heavily (Blackmores, Mantra, CSL and Medibank), while those that met expectations remained unscathed or continued to rally (Domino’s, James Hardie, Cochlear and Healthscope).
Insider-selling spooked the market on multiple occasions. The CEO of Brambles sold his entire holding of shares while the Healthscope CEO sold a significant amount, as did the founder of Vocus.
James Packer lightened his holding in Crown Resorts through a block trade outside of market hours.
Looking forward, the markets estimate of the timing of a US Federal Reserve interest rate hike, along with the prevailing local macroeconomic backdrop will continue to drive many of the broader market trends.
The relatively low aggregate volatility of the index is masking a significant amount of re-positioning that is occurring as investors prepare for changes in the interest rate environment.
As bottom-up stock pickers we will aim to use the impact of macro-economic trends to find attractive entry points into companies with strong fundamentals for growth and to add to positions in such companies that we already own.
Lee Mickelburough is Henderson Global Investors’ head of Australian Equities.
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