ASX Weekly Wrap 03/04 - 06/04

The XJO had some reprieve from the selling it has experienced over the last few weeks, albeit very minimal. It managed to finish the week up 29.30 points or 0.51% as the market again focused on potential trade wars between the USA & China. Although it seems now as if the threats being made by the two countries are losing their effect as the market realises no dates of implementation are being set and Chinese dialogue remains very positive and open for negotiation. I have said it all along, but I doubt a trade war ever develops as it really doesn’t benefit anyone in the long run.

Again we had a shortened trading week due to the Easter long weekend. Most international markets were open Monday night, but we remained closed for the Easter Monday holiday. There were a lot of little tid bits of economic data released during the week, so let’s get stuck right into it. The Australian retail figures for February were released on Wednesday with some surprise strength. Retail sales grew by +0.6% for the month after a +0.3% read was expected and +0.1% read last month. This can partially be explained by the Chinese New Year splurge we see locally, but hopefully it shows a bit more strength is returning to the sector.

Locally we also had our trade balance for February released seeing a +1% increase for both imports and exports. This also saw our surplus come in slightly higher than expected at $825mill v $700mill forecast. Exporters saw strength from LNG as prices continue to increase due to strong demand. In the last twelve months Australia has exported $29bill worth of LNG, which is also six times higher than what we exported a decade ago. In a quick note we also had the RBA meet for its usually monthly decision on the official cash rate. The outcome was no surprise seeing our cash rate again put on hold at 1.5%. The commentary from the RBA also wasn’t any different seeing weakness in wage growth, concerns over housing sector weaken and an overall solid and steady outlook for the Australian economy.

Overseas there was a raft of Manufacturing and Services PMI data released, which saw mixed result across the board. Overall the manufacturing PMI for the Eurozone remained flat at 56 for March which is well over the all-important 50 point indicator and shows real strength across Europe’s manufacturing industry. The US saw some weakness, however. The March figures came in at 59.3, down from the 60.8. Like Europe though, remains extremely bullish. The US services PMI also came in slightly weaker at 54.0, down from 54.1. These figures are not concerning unless we start to see a consistent down trend over a few months. At this point it still suggests a very strong US economy.

The real concern comes from the manufacturing and services PMI readings we saw from Caixin in China during the week for March. Both reads saw significant falls with manufacturing coming in at 51.0, down from 51.6 and services at 52.3, down from 54.2. Now as I said above, unless it becomes a trend its not a concern, but something to be monitored. China data is usually softer in the first quarter. If it plays out like other years then it should recover well from here in out. Caixin also only survey small to medium sized firms in China would could be hit harder by Chinese factory shut downs, due to environmental reasons. The national PMI numbers, monitored by the Chinese NBS actually were really bullish. These came out over the long weekend and saw manufacturing rise from 50.3 to 51.5 and services from 54.4 to 54.6. These statistics do incorporate all businesses across the respective sectors. People often turn to the Caixin figures due to the fact they are independent of the Chinese government and don’t feel government figures can be trusted. I like to incorporate them all and trust the trends they develop.

In the final release of economic news we saw US jobs numbers out for March on Friday night. The NFP came in at just +103k, when +193k was expected and we saw February’s figures revised up to +326k. The unemployment rate remained steady at 4.1%, whilst avg hourly earnings accelerated to 2.7% from 2.6%. All in all a solid set of figures. The headline job figures were disappointing, but in an economy that’s considered to be at full employment it will be hard to add 200-300k jobs every month. Its points to more of the same and a likely rate increase by the Fed in June.

There is literally no corporate news to speak of from last week, of note anyway, so I just wanted to look at a couple of commodities. The first is Copper. Like most commodities, during this trade war scare, have come off from their highs. Copper hit recent highs of $US3.31/lb, but now sits around $US3.07/lb. However the dynamics of the industry and for prices moving forward are very bullish. I mentioned some time ago that copper was likely to be in a large supply deficit in coming years. It turns out this has set upon has sooner than expected and is actually occurring now. For the first 10 months of 2017 production trailed consumption by 175,000t. This is set to deepen in 2018 as well. We have a situation where the world has had very little investment in new copper mines over the last few years. This has meant no new supply is coming online and in fact the pipeline of possible new copper mines is at its lowest in over a century. We also have a problem where copper production is very reliant on mines in Chile and Peru, who produce 20% of the worlds copper, and in particular BHP’s Escondida mine. In these countries we have 30 labor contracts up for negotiation in 2018 with their largest copper producers. In the past these negotiations have led to a large amount of strikes and mine shut downs. This could interrupt copper production in 2018 and put more pressure on supply.

Obviously this is all very bullish for the copper price. Based on simple demand/supply economics less supply should force prices up and help earnings of listed copper producers. On the ASX the best way to get exposure to copper is via BHP, RIO Tinto (RIO), Oz Minerals (OZL) and Sandfire Resources (SFR). These companies are out largest producers listed on the ASX. Then, of course, you have a host of small/micro cap companies that are producing small quantities and exploring for copper, but these come with a very high risk, so I will leave these alone for now. My preference is for BHP, as it has the largest copper exposure on our market at 1.113mt pa produced, and OZL due to its sole focus on copper/gold, no debt, high cash $700mill+, large operating cash flows and a new mine to add a further 100kt pa of copper by the end of 2019. OZL also just announced it will be taking over AVB, a small copper producer in Brazil, hence it is diversifying its location whilst adding to production. I also feel OZL may be a target themselves for a takeover as the points above make them very attractive to potential suitors.

The second commodity I want to discuss this week is LNG (Liquefied Natural Gas). The Santos takeover news last week got me thinking, why are Harbour so keen to get their hands on STO? I took a deeper look at the LNG market, and in particular Asia, because as of only 6 months ago I had been informed that LNG were to be oversupplied until 2024/25. The more I looked and read the more bullish the scenario looked for LNG over the near term.

In 2018 China’s imports of LNG grew by 48%. Yes you read that right. Why did this happen? Well a little over 12 months ago the Chinese government started to take steps to cut its terrible air pollution by shutting down steel mills, factories and, the important one, coal power stations. It started to force these coal stations to convert to LNG and planned new coal stations to also change to LNG. Add to this South Koreas move away from nuclear reactors and restrictions on coal we had LNG demand that outstripped any forecast by a whopping 30%. China is now the world’s second largest importer of LNG and has forced prices in northern Asia to double in the last 12 months.

It is no secret there is a lot of LNG supply out there. Between 2010 and 2015 there was tens of billions of dollars invested in LNG production in Australia alone. This investment has ceased since then as production plants are completed and no new investment decisions have been finalized. You have to remember LNG projects generally take more than 4 years to complete and start producing so it’s a long time between decisions to construct and final production. This means any new projects are not going to be ready until the mid-2020s. On top of that there are major projects in Russia and USA they have announced delays to production by 12 to 18 months further constraining new supply. It is expected that global production will increase by 8mt in 2018. Given China’s increase in imports in 2017 and the fact the mission to cut air pollution has only just begun it can be suggested that China alone may be able to account for the increase in production. This requires China to increase demand by 21% in 2018. This doesn’t include any further increase from South Korea or Japan.

Australia is lucky to be one of the largest, if not the largest, LNG producing countries in the world as of 2017. It also means we have some of the best LNG exposure on the ASX as well. Our biggest producers of LNG on the ASX include Woodside Petroleum (WPL), Oilsearch (OSH), Santos (STO), Beach Petroleum (BPT) and Senex Energy (SXY). My preference is for WPL & OSH. WPL as our largest LNG producer with a steady and reliable production outlook. They are also coming up for the renewal of significant LNG gas contracts in 2018/19 which bodes well for them with the recent strength in LNG prices. OSH is a smaller producer, but also set to expand their shared operations significantly into 2019. I feel the market undervalues them when compared to peers and I see a lot of upside in their share price to come. Like copper there are many smaller companies with high risk scenarios that I won’t cover in this newsletter, but we are spoilt for choice.

Most sectors saw modest gains last week. Energy lead the way with 3%+ in gains as oil and gas prices continued to surge. Retail, resources and property trusts also saw some relief rallies. Utilities continued their 2018 slide falling almost 2%.

The XJO managed to reclaim that upward trend yesterday and looks good to hold it today. This is positive news for us moving forward as our next step is to reclaim the 200dma and start building a consolidation pattern before our next move up. This will take a few weeks to play out I feel, especially since three of the big four banks are set to go ex-dividend next month taking funds out of the market. Investors won’t be able put those back into the market until July when they receive them.

Whilst there wasn’t anything to chat about from a company point of view we still managed to fill this week’s wrap out. Had a relatively quiet weekend just passed and another quiet one coming up before it starts getting busy again. Crows game against the Pies to go to on Friday night. Crows should be able to chalk up a win. Hope you all have a wonderful week and stay safe. Speak to you all soon. Go Crows!

heath@hlminvestments.com.au

0413 799 315

Important Notice

Any advice in this article should be considered General Advice only and does not take into account your personal needs and objectives or your financial circumstances. You should therefore consider these matters yourself before deciding whether the advice is appropriate to you and whether you should act upon it. I am happy to assist you in this process. To do so, I will need to collect personal and financial details from you before providing my recommendations. Please note the author may own shares in the companies mentioned in the above blog.