Credit Suisse downgrades Australian earnings

From Credit Suisse this morning comes a more useful take on equities for the the FY14 year than I’ve seen elsewhere:

We believe that the consensus earnings forecast for the Australia market could be downgraded by 8%. Our earnings model, based on commodity prices and credit flows, combined with concerning growth signals, points to such an outcome. This view is broadly consistent with those of our global equity strategy team and the Australian stock analysts.

…The negative earnings outlook favours defensive and quality stocks over cyclicals in the short term. But we are wary about being too negative on resources because of a looming inflection point. Potentially, there is still scope to be negative on the smaller resources stocks. We prefer to be short or UNDERWEIGHT domestic cyclicals which could suffer from the fall-out of lower commodity prices, and inadequate Australian policy stimulus

However, we also caution about becoming too negative on Australian equities in the broader context of asset allocation. For starters, Australian equities are no-where near as expensive as the US equities. Secondly, we believe we are not too far away from an inflection point in the EM complex, should China stimulate in response to the deep slowdown in train.

In these circumstances, we must be careful not to be too negative on resources stocks, even though their earnings will be adversely affected in the short term by lower commodity prices. Potentially, there is still scope to be underweight or short smaller resources stocks, which are higher-cost producers with much more cyclical EPS – but even then, the investment horizon is relatively short.

We prefer to be UNDERWEIGHT or short domestic cyclicals, which could indirectly suffer as world growth slows, commodity prices fall and unemployment rises (eg mining services, retailers, builders, banks).