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JANA has recently completed its quarterly Asset Allocation review with the most notable change being an improvement to the view on Australian equities from Unattractive to Neutral. The fundamental backdrop for the Australian equity market remains robust driven in large part by the improving earnings outlook for the Mining and Financial sectors. Sentiment for the market also remains positive and provides support for JANA’s improved view on the asset class. Australian equity managers expect the FY22 market P/E multiple to compress given the expected improvement in market earnings all things being equal.
JANA has recently completed its quarterly Asset Allocation review with the most notable change being an improvement to the view on Australian equities. The view of Australian Equities improved from Unattractive to Neutral. As a reminder, JANA determines asset allocation views based on three key areas being: fundamentals, valuations, and sentiment. JANA’s Capital Markets Group ultimately determine the relative view for each asset class. While we believe the backdrop is more constructive for Australian Equities in isolation, it is important to note that the change in view is also a relative consideration and represents a recommendation for ‘reallocation’ of risk exposures, rather than an outright increase in risk for diversified portfolios.
In evaluating market fundamentals, the Australian Equities Research Team (AERT) evaluates the underlying earnings of the market and at a sector level both on an historical and on a forward-looking basis. In understanding the trend in earnings, AERT engages with fund managers across the market to gauge their views on the earnings outlook with a focus on the upside and downside risks over the next 3 years, with a particular focus on the next 12-18 months. AERT also observes the consensus earnings expectations from the sell-side in determining our fundamental view.
The underlying earnings and dividends for the ASX 200 illustrated below represents the sell-side consensus view for calendar years 2021, 2022 and 2023. The strong rebound in earnings of the ASX 200 from March 2020 is observable, as general expectations for earnings improved given the Federal Government support followed by the announced COVID-19 vaccine in late 2020.
Fundamentals for Australian equities are improving, driven by the earnings expectations of the major Miners and Banks to a large extent.
The ASX 200 Materials sector represents c20% of the ASX 200 index and therefore is considered a significant driver of broader market earnings. When considering the outlook for Materials sector earnings, AERT gathered the views from several Materials sector analysts from a range of buy-side managers. General observations are summarised below:
ASX 200 Financials sector represents c30% of the ASX 200 index and therefore is considered a significant driver of broader market earnings. Managers generally believe Bank share prices fully reflect their strong balance sheet positions. Future EPS growth comes with execution risk around improving earnings margin, cost-out initiatives and volume growth driven by business lending.
Overall, managers are quite positive on the prospects for the market and the fundamental underpin for it. AERT recently surveyed a range of managers, with 45% indicating they were bullish on the prospects for the market based on underlying fundamentals or valuations, while just 5% indicated they were bearish at present. A neutral view was submitted by a further 45% of investment managers. Drilling into the details, managers are generally viewing upside risk to consensus earnings (below, left) and dividends (right) estimates for calendar years 2021 and 2022.
The ASX 300 is trading on 18.6x forward P/E versus an average of 14.4x. Based on this measure the valuation appears expensive compared to historical averages, being just below +2 standard deviations expensive relative to long-term history. Healthcare, IT, and Industrials remain the three most expensive sectors, with forward P/E being >2 standard deviations expensive. Small and Mid-Cap segments remain elevated (trading at 2 standard deviations and 1.5 standard deviations above their averages, respectively), though Mid-Caps have notably fallen from the extreme highs experienced towards the end of 2020 (partially due to stock specific factors).
There has been divergence between the valuation of Small/Mid-Cap segments of the market when compared to the broader market, with the former displaying more expensive valuations.
Considering manager expectations for Fundamentals and earnings in FY22, Valuations on a FY22 basis don’t fully reflect those expectations. Managers expect the FY22 Market P/E multiple to compress given the expected improvement in Market earnings, all things being equal.
The NAB Business Survey in May saw highs hit in its indicators for business confidence and business conditions. Of note, the underlying factors, trading conditions, profitability and employment all hit record highs in the Survey. The largest increases were seen in the Mining, finance/business/property, and the services sector, although all sectors reported positive conditions. Confidence improved in all industries, led by a pickup in retail.
The Australian Equities Research Team recently undertook a survey of several managers. The key takeaways from the survey were:
The fundamental backdrop for the Australian equity market remains robust driven in large part by the improving earnings outlook for the Mining and Financial sectors. Fund managers surveyed by JANA consider there to be earnings risk to the upside in FY22 relative to the consensus outlook. Managers expect the FY22 market P/E multiple to compress given the expected improvement in market earnings all things being equal. Sentiment for the market also remains positive and provides support for JANA’s improved view on the asset class.
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