In this section we provide readers with three stocks that have attracted the interest of the broking community or the ‘herd’. Broker recommendations tend to be biased and highly optimistic. We try and breakdown these barriers and give our own honest opinion. It is important to keep in mind that technical analysis is only one part of the investment process and any recommendations do not give consideration to the underlying fundamentals of each business.
A2 Milk (A2M) – Current Price $3.10 – An article in the AFR says the milk producer is looking like an attractive takeover target amid an earnings upgrade following a strong start to the 2H. Demand for a2 Platinum infant formula has exceeded expectations. The company is now expecting infant formula sales for 2H17 to exceed sales achieved in first half FY17. As a result, Group revenue for the 2017 financial year is forecast to be NZ$525 million. Everything is going right for the company with sales in China booming and retail outlets running out of stock. Looks like A2 has taken over from where Bellamy’s left off. Broker View: Citi (NEUTRAL $3.10) – The broker has released a Neutral review of the company saying the March Q update was strong but it’s of no real surprise especially because the share price has run rather hard since early March. Citi has however lifted guidance.
Unconventional View: We agree with Citi but take a much more bullish stance. If you’ve been following our recommendations flick back to March 24 (click here) when we wrote up quite a positive review on A2. We said back then that Chinese consumers and daigou have all switched to A2 Platinum to the point where they believe it is a far superior product leaving Bellamy’s behind. For that reason, we think it’s blue skies for A2M. We wrote about A2M on November 11 when the stock was at $2.04. Back then we said “You could buy A2M for a trade but we recommend investors sit this one out until there is clearer confirmation surrounding the Chinese baby formula market.” There is now enough confirmation that strict regulations have been delayed indefinitely, so it’s a green light from us. Had you bought on March 24 at $2.61 you’d be up 26%. Not bad. The question is – would we buy now?
The answer is Yes. We love the A2 Milk story and have been followers for some time. We think there is a load of value left in the stock. The March update was particularly strong and A2 is leading the Chinese Milk race. The milk bubble is far from over for A2M. It generated sales of $388m in the nine months ended March 31, with third-quarter infant formula sales exceeding expectations. Demand is soaring again in not only China but Australia too. The company is now working with its partner Synlait Milk to increase supply to meet demand. A2 has an 8.2% stake in Synlait. We have confidence in the company being able to deliver 22k tonnes of infant formula sales in FY18 and 25k in FY19. Brokers across the board are upgrading their forecasts to reflect the new figures. Credit Suisse have upped their forecasts by 15%-33% for FY17-19. The other big ticket is a possible takeover approach. Think back to 2015 when Dean Foods and Freedom Foods lobbed an expression of interest into A2. It amounted to nothing and was knocked back because it wasn’t compelling. But it means that the company remains an attractive take-over target.
On fundamentals, A2M looks expensive but it’s easily justifiable on a ROE of 31.80% which is forecast to rise to 44.69% the next year. That means the company is highly profitable but we know how quickly the infant formula space can change when new Chinese regulations are introduced. For that reason we recommend setting a tight stop loss of around 8%-10%. Just in-case there is a sudden change. On the chart – the stock has broken out on the upside and triggered a bullish buy indicator. We recommend investors buy on this trigger despite RSI looking a touch high. MACD is positive.
ANZ – Current Price $32.75 – This week ANZ increased its interest rate on investor home loans. It follows CBA, NAB and WBC who both upped rates on owner occupier and investor loans. The RBA will meet next Tuesday and is tipped to keep rates on hold. Interest-only loan rates will rise by as much as 0.40%. ANZ are due to post their earnings results on 2 May next week. Broker View: Morgan Stanley (OVERWEIGHT $30.50) – The broker has a bullish view on ANZ. It believes the bank will meet next week’s earnings expectations. It says to look out for robust earnings and an improvement in loan losses. There could also be a share buyback next year. Unconventional View: We agree with Morgan Stanley. ANZ is looking great and has had bumper run. Shares are up some 35% since this time last year. The question is whether it can continue on this momentum. We think so. The bank’s December trading update was quite positive. The core businesses in Australia and New Zealand performed well. Retail was a strong contributor in particular in the home lending segment. Initiatives including ApplePay and AndroidPay which are driving ongoing net customer acquisition gains in Australian Retail Transaction Banking. ANZ posted a cash NPAT of $2bn up 31%. We also think that the bank’s NIM is on the rise following several interest rate rises which bodes well for the upcoming result. In the short term brokers seem to be suggesting that there could be possible share price upside supported by resilience in revenue and an improvement in loan losses. There is also the potential for ANZ to issue a $5bn share buyback next year.
On fundamentals, ANZ looks great. The stock is trading on a PE of 16.58x but again is justified by an increasing ROE of 10.75%. The dividend yield is OK and trend looks great. If we had to choose out of the 4 big banks, you’d probably go NAB on fundamentals. It’s the cheapest yet has a high and increasing ROE. Nevertheless, on the chart the stock looks attractive. ANZ is making higher highs and formed a golden cross some time ago. It’s clearly in an uptrend formation and trading with bullish momentum. We think investors should be adding ANZ to their portfolio.
BHP Billiton (BHP) – Current Price $23.63 – Recently completed an operational review forthe nine months ended 31 March. BHP record production at WA Iron Ore (WAIO) and five Queensland Coal mines. Following 44 days of industrial action at Escondida, copper production guidance reduced to between 1.33 and 1.36 Mt. As a result of damage to third party rail infrastructure caused by Cyclone Debbie, metallurgical coal production guidance reduced to between 39 and 41 Mt. Full year production guidance maintained for petroleum and energy coal. WAIO production guidance narrowed to between 268 and 272 Mt. BHP is also considering the divestment of non-core Onshore US acreage with the sales process well advanced for up to 50,000 acres of the southern Hawkville. Broker View: Macquarie (OUTPERFORM $29.00) – The broker has issued a positive outlook on BHP. It says the March Q production report was in line with expectations. Cuts to copper and coking coal guidance were expected. Despite all this the broker says that recent falls in iron ore and coking coal prices have reduced the upside to the broker forecast. Unconventional View: We disagree with Macquarie. Whilst the broker see upside we don’t. BHP has had a great run from its $15 bottom to $23.60 now. That’s a good 57% share price gain. We think now is the time to lock in profits and walk away. The iron ore price has gone into a nose dive and will take a big bite out of the miners in the months to come. BMI Research is even saying this is the beginning of a multi-year slump in iron ore. The glory days are gone at least for now. Even the price of oil doesn’t seem to be going anywhere soon. According to the research arm of Fitch Group iron ore will drop to $US70 a tonne this year, $US55 in 2018, and $US46 by 2021. The current price is US$66.06. It doesn’t bode well for BHP. Both BHP and Fortescue Metals (FMG) have lost on average about 15% since their February peak. We think this will continue.
On fundamentals BHP is trading on quite a high PE of 38.8x which makes it still quite expensive. On the chart BHP has broken its uptrend formation. This downside break out is a bearish indicator and you could very well see the stock start to drift lower. We think investors should be selling on this downside break out.