Australian Sharemarket Update - November 2011

There is a substantial amount of financial material available online regarding Australian equities and sharemarket performance. We don't intend to compete in that regard, but we have had a long term relationship with John Goodlad of Hartleys sharebrokers, who has many expat clients, and include his monthly briefing as a short, sharp briefing for Australian expats. You can make contact with John through our contact form.

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This edition examines the continuing ructions from Europe that have been impacting confidence. And it contrasts that with Asian demand for our resources – along with the prospect of further rate cuts here in Australia.

It has been another “character building” month for investors. The All Ordinaries index bounced off its most recent 4400 highs and is currently at around 4100.  The trading range since July has been from approx 3900 to 4400. Talk of a Christmas rally has turned to a sour Christmas “Bah Humbug”pall!!

My own view is that the market has drifted down on thin volume. The Bulls are in one paddock and the Bears in another - and there has not been much happening in between.

How long this will last is anyone’s guess. Negative feedback loops chockfull of European debt dramas, Chinese slowdown stories, Budgetary battles in the US etc mean that sentiment is very poor indeed. Lower turnover and articles proclaiming the death of the “cult” of shares are all signs of a bottoming out – but we do not know if/when we have hit the bottom until well after the event.

What we do know is that bear markets are always more protracted that we fear. But they do turn eventually.

What will turn them?

• First, as we have probably all forgotten, Australia has not has a recession. Nor is one being predicted by the commentariat.
   
• Secondly, the Asian demographic has not gone away and will continue to underpin prosperity in this part of the world at least ( and with the inevitable ups and downs along the way).

Other positives include:

• Falling interest rates (both here and in Europe - and probably China);

• The falling Aussie dollar (good for our exporters and for companies with USD denominated earning like Westfield and CSL);

• Cheap share prices with strong dividend yields – particularly compared to the overcrowded fixed interest market and cash.

Recent client commentary has been noteworthy here too :

• “We are overheated and cannot get staff or equipment   “ – a Queensland based mining manager

• “There is money everywhere.”  - a description of the iron ore division of one of the majors.

These are resources sector comments – but it does show the knife edge that can exist between and economy operating with spare capacity and the impact that a slight increase in growth can have.

Broadly speaking, our market is trading at a cheap level. Price earning ratios are at near decade lows. Goldman Sachs Australia yesterday pointed out that the prospective PE on the ASX200 Industrials ex Bank was 13x as against the average over the last 22 years of 16x. Their strong view is that dividend yield support will be a natural cushion on any sell off. This means that anytime we go below 4000, the yield on the ASX approaches 5% fully franked. This provides a “massive and invisible line of support”.

Similarly, the Van Eyk Research group, in its most recent Investment Outlook described the outlook for equities : “Starved of certainly – or at least the perception of certainty – markets are pricing in relatively low P/E ratios – 12x for the MSCI World, 11x for Australia... Even with some level of optimism in these numbers, the market is likely ignoring the potential of a rally … if any of the following occur: if Europe agrees to a plan, if China bridges its credibility gap, if the US does not lapse into recession again.”

“As far fetched as these outcomes seem, if one of them occurs there is a potential upside of around 20-30% in equity market prices”.

And it notes that earnings yields (the inverse of the PE ratio) are still at least 6%, whereas bonds are yielding 2%. For talking some risk, the relative return profile between bonds and equities appears weighted toward shares.

Finally, Charlie Aitkin of Bell Potter believes that this is a three month buying window after which we will all look back and wonder why we do not take more advantage of the gloom ( We all know why - we are heartily sick of it!!). But he makes an excellent point :

“Fear has become somewhat irrational. We have the greatest value and sustainable dividend yields in 30 years, yet the vast bulk of professional and private investors are trying to protect downside AFTER a 20 percent correction”.

So the two points we have been making for the last few months:

• Don’t get bearish at the bottom.

• Chip away at various good quality companies in the current awful sentiment and we will make good returns when global markets eventually do settle down. (And here we are looking at NAB in the low 20s. WES if it gets back into the 20s, BHP in the low 30s etc).

We have plenty of Research on particular shares and sectors if you are interested. Hartleys has just put out a new Gold Book and I would be happy to send that through. It contains a note on Northern Star Resources Ltd (NST) which just announced a drill core intersection that contained 12.7 kilograms of gold – one of the richest results in Australia’s gold mining history.

I have also just returned from visiting the Poseidon nickel operation in the Eastern goldfields. I will write this up for my next newsletter (hopefully when there is a little more appetite for risk).In the meantime it has repaid any buying interest below 20c.