Cautiously Bullish on the ASX: Bank Stocks, Interest Rates and Catalysts

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Cautiously Bullish on the ASX: Bank Stocks and Interest Rates
Cautiously Bullish on the ASX: Bank Stocks, Interest Rates and Catalysts

Well, looky here. For the last two weeks we’ve had the idea that bank stocks would drop as their results came out.

ANZ and Westpac played to form. NAB, however, did not. It went up!

NAB surprised the market by not announcing an institutional capital raising.

Yesterday’s jump was likely a mini short squeeze as the market was wrong footed on this front.

Hmm.

We’ve tabled the idea that the banks may also face a potential headwind around further regulatory penalties and the uncertainty about plans from the Reserve Bank of New Zealand.

But the lure of bank dividends may be enough to prop them up from here regardless. But just how sustainable are they?

NAB’s interim chief executive Phil Chronican expects profit margins will take a bigger hit this year from ultra-low interest rates.

All year Profit Watch has hammered the same point. Low interest rates hurt bank interest margins. It also reduces their incentive to lend.

The regulators are exacerbating all this by requiring them to hold more capital. This pressures their earnings growth even more.

All this could potentially mire Australia in a ‘credit recession’.

Bank lending is the blood of the economy — unless the Reserve Bank of Australia (RBA) steps in and fills the breach. For now that institution does nothing but bleat empty words.

The RBA, however, does do one useful thing…

Bank stats look droopy

It releases a regular ‘Chart Pack’ that graphs various economic measures around the world. That came out this week.

Take a look at the latest figures on credit growth in Australia (the pink line)…

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Source: Optuma

It’s looking a little droopy, wouldn’t you agree? It’s no coincidence that the banks peaked in 2015 at the same time as this trend.

This is a worry.

Both NAB and ANZ made the same point in their recent results. Customers are using lower interest rates to reduce their debt balances and not for extra spending in the economy.

When a bank makes a loan, it creates new money and credits it to the borrowers account. The process works in reverse, too.

Whenever a debt to a bank is repaid, it destroys money.

That means new lending must replace maturing debts for the Australian money supply to keep growing, or stay stable at least.

If that doesn’t happen, the economy will begin to contract. We’re not there yet. But it’s hardly booming, either.

And it will show up in your stock portfolio if you’re not careful.

Did we get an early taste of this yesterday?

The Aussie consumer doesn’t look crash hot

Flight Centre Travel Group Ltd [ASX:FLT] came out with a very underwhelming guidance for the financial year so far. The company said half year profits could slump by a third.

Flight Centre supremo Graham Turner highlighted weakness in the Australia leisure market and added that sentiment was not good.

Don’t forget that Qantas already flagged weak leisure spending in its trading update back in October.

All this is not to say that we have to avoid every stock exposed to the economy and the consumer.

But we better make sure the reward is worth the risk considering the choppy waters we find ourselves in.

Naturally, the signals are conflicting…

One sector firing in the Aussie economy

While Australian consumers creak under these various pressures, the mining sector is firing and driving the trade balance up.

Australia’s current account has stayed positive and, presumably, part of what’s boosting the Aussie dollar right now.

We’re also currently receiving good vibes emanating from the US stock market.

However, there is a concept in the market known as a ‘bull trap’.

The idea is that the market rises and lures momentum traders and bullish investors to commit their money — before it reverses and goes down again. I’m a little wary of that scenario in the short term.

Generally, I like to follow signs of strength. That currently steers me toward the mining sector for potential opportunities.

There’s plenty of merger and acquisitions and other deals that could happen here because of good cash flows happening right now.

There ARE also company specific catalysts that can produce some tidy moves.

Look for stock specific catalysts

Small-cap ZipCo Ltd [ASX:Z1P] flew up 17% yesterday after announcing a deal with the Australian arm of Amazon. My take for a stock with great potential for a good boost like this is here.

It’s worth keeping an eye on any business that could do something similar to Z1P.

For now I’m sticking to my mantra that’s guided us all year…remain cautiously bullish. But do make sure your risk management and investment plan are in place.

2020 is unlikely to produce a cracking run of gains and low volatility like, say, 2017. Certainly, that’s bound to be true if current weak credit trends in Australia persist.

Regards,

Callum Newman Signature

Callum Newman,
Editor, Profit Watch

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