Energy and mining are the obvious best bets in such a gloomy market, so it is little surprise that Macquarie is advising along those lines. It is looking at energy and mining services, the latter being an operational play rather than a bet on commodity prices. Macquarie is anticipating a tough time ahead for earnings outside resources. The high currency is really starting to hurt:
“Central bank printing presses are slowly reflating the global economy. Growth isn’t and won’t be rapid and will be punctuated by ongoing concerns around periphery Europe and Iran. Nevertheless the direction of growth remains up, led by the US. As a result, 1H12 should remain a broadly constructive environment for global equities, again led by the US equity market.
Unfortunately the headwinds for the Australian equity market are greater than for most. Notwithstanding the leverage of the local market to the global recovery, Australia is being squeezed by the combination of a high currency, relatively high interest rates, negative productivity growth and a highly inflexible industrial relations framework.
As a result, outside of a few world class mining assets and the companies that service them, Australia is today dangerously uncompetitive across a wide range of domestic industries. Corporate operating margins are under pressure and will remain so. Managements’ response will be to shed costs aggressively to try to restore cash flows. As a result, Australian Market FY12 EPSg will be negative, to the order of at least -5%.”
The obvious play is energy, and Macquarie is advising increasing investment in Santos and going underweight in BHP. The rest of the model portfolio is highly defensive, with only selective plays.
Meanwhile, Deutsche is going bearish on engineering stocks, even though it should be a beneficiary of the mining boom:
Following a review of the Dec 11 results, we have become more negative on the sector. We believe the sector wide pursuit of new markets suggests growth in existing markets is slowing. We believe that costs associated with entering new markets, an industry shift to less alliance work and increased labour costs will prevent margins returning to peak levels. Lastly we see a number of permanent changes that will lead to lower levels of future cashflow.
BLY and UGL are our top picks in the sector
We have Buy recommendations on BLY and UGL. BLY’s result revealed the company continues to benefit from strong demand for its services & products, and pricing & productivity has been improving. UGL’s result revealed the Infrastructure, Rail and Services divisions continue to experience robust demand and have been performing above our expectations. With both stocks trading at substantial discounts to their long run average PE relative to the ASX Industrials (ex banks), we believe they offer compelling value.
Very much a time to make only selective plays, judging by the prevailing sentiment. Although it is always worth remembering that the best investment plays come when things look their worst and energy has a more sound future than most.