lonsec australian market outlook november 2009 william keenan snr equity strategist n.
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Lonsec Australian Market Outlook November 2009 William Keenan Snr Equity Strategist. Disclaimer. IMPORTANT NOTICE: The following relates to this presentation prepared by Lonsec Limited ABN 56 061 751

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IMPORTANT NOTICE: The following relates to this presentation prepared by Lonsec Limited ABN 56 061 751

102, AFSL No 246842 ("Lonsec") and should be read before making any investment decision about the product(s).

Warning (General Advice Only): Today’s presentations will provide information about investment process, economic

conditions and outlooks for investment markets.

The views, opinions and recommendations included in the information today are all “General Advice”. That is, they do

not take into account the question of their personal suitability for any particular attendee and where a specific financial

product is referred to, attendees should not act on the advice without first consulting their financial planner or advisor

about its appropriateness to their investment objectives, financial circumstances and needs.

Past performance is not reliable indicator of future performance.

Disclaimer: No representation, warranty or undertaking is given or made in relation to the accuracy or completeness of

the information being presented, which is based solely on public information that has not been verified by Lonsec. The

conclusions and recommendations contained in this presentation are reasonably held at the time of completion but are

subject to change without notice. Except for any liability which cannot be excluded, Lonsec, its directors, employees and

agents disclaim all liability (whether in negligence or otherwise) for any error or inaccuracy in, or omission from, the

information contained in this presentation or any loss or damage suffered by the recipient or any other person directly or

indirectly through relying upon the information.

Disclosure:Lonsec’s directors, officers, representatives, and their associates, may hold the securities referred to in this

presentation, which may change from time to time, but none receives or gains any other benefit as a consequence of the

recommendation or advice presented in this presentation. Lonsec considers such holdings not to be sufficiently material

to compromise the recommendations or advice, and the Analysts at the time of preparing this presentation are not aware

of any holdings. Lonsec receives brokerage or other benefits (e.g. application fees) for dealing in financial products and

its associated companies or introducers of business may directly share in the brokerage or benefits.



  • Australian economic outlook

- Positives

- Negatives

  • Australian share market outlook
  • Market conclusion
  • Lonsec Core Model Portfolio
australian economic outlook
Australian economic outlook


  • The Banking system is stable and credit is flowing
  • Financial markets are on the mend and volatility has eased
  • Monetary policy has been effective in lowering interest rates
  • The Gov’t is in a relatively strong financial position to provide fiscal stimulus
  • House prices have proven resilient
  • Net Exports have held up well
  • China (our main export partner) is still growing
  • Retail sales have been robust over 2009
  • Employment has also been surprisingly resilient (unemployment rate 5.7%)
  • Consumer and Business sentiment has experienced a V shaped recovery
  • The rising AUD is deflationary in the short term

Australian economic outlook


  • The GFC has induced a Global recession in the developed world
  • Global Private sector looking to deleverage
  • Global Public sector is re-leveraging as a result of fiscal stimulus
  • Global demand and trade has fallen sharply but now seems to be gradually recovering
  • Australian sharemarket down ~ 35% ($500bn in wealth lost)
  • Aust. Export income declining in the short term due to lower coal and iron ore prices
  • Aust. Private sector debt levels high (170% of GDP) with A$678bn borrowed offshore
  • Underlying inflation is proving resilient at 3.5%
  • Interest rates are on the rise
  • A rising AUD will hurt our export competiveness in the medium to long term
australian sharemarket outlook
Australian sharemarket outlook
  • The Australian market is up 40% since 2001 whereas the US market is still under water
  • Resource and Energy stocks have outperformed because of demand from Asia and weak USD
australian sharemarket outlook1
Australian sharemarket outlook
  • The 07/08 bear market was similar to 1973 in severity but note that after each fall, the market has recovered all losses within 3-6 years
  • Daily share market volatility peaked in 2008 but is settling down in 2009 to <1.0% again
australian sharemarket outlook2
Australian sharemarket outlook
  • The recent market rally has increased the trailing PER to > 20x which looks expensive
  • However, the market expects earnings to recover by at least 20% over the next year
australian sharemarket outlook3
Australian sharemarket outlook
  • The market dividend yield is around 4.2% - closer to 4.8% if excluding low yielding resource stocks
  • Secondary market capital raisings increased markedly to $90bn or about 9% of total market cap over FY09
  • This is significantly larger than the 1995-2008 average of 3.8% of market cap
  • Investors will need to keep an eye on EPS growth rather than NPAT growth
australian sharemarket outlook4
Australian sharemarket outlook
  • The cash rate has been slashed but is on the way back to more “neutral” levels
  • Bond yields are also on the rise
  • Rising bond yields increase the cost of debt and in turn equity capital
  • Investors need to keep an eye on this trend
  • The Global economy seems to be stabilising and gradually recovering
  • The Australian economy has proven remarkably resilient over FY09
  • Consumer and Business sentiment has recovered
  • Financial markets have improved
  • The Australian market has rallied 45% from its March 09 lows but is still down 35% from its 2007 peak
  • There are encouraging signs that the worst has past
  • Nonetheless, significant challenges lie ahead for the developed world with growth likely to remain subdued for some time due to the deleveraging process that has now begun, post credit crisis
  • Asia looks to have much cleaner prospects for growth
  • Lonsec expects the Australian market to move towards 5,000 over FY10, as investors rediscover their appetite for risk
  • Lonsec recently increased its Australian Equity weighting to overweight

The Lonsec approach to direct investing

  • Construct and manage virtual model portfolios
  • Focus on absolute returns over the medium to long term
  • High conviction, low turn-over, active portfolios
  • Four-step investment process
  • Strong focus on “top-down” macro-economic and industry themes
  • Risk mitigation at the portfolio and individual stock level

Lonsec investment process


Income v Capital

Step 1



Client Risk Profile


Risk Controls –

Min. no. of IndustriesMin. no. of StocksStock universe restriction

Stock weighting limits

Portfolio turnover rules

Macro-economic view

Sector view - Growth, Cyclical, Defensive, Value

Step 2



ICVR x 4 Stock Filters

Industry Ratings

Company Quality

Company Valuation

Company Risk Rating

  • Step 3
  • Stock
  • Selection

Daily monitoring

Monthly performance measurement

Attention to Corporate Actions

Quarterly Investment Committee Review

Implement any changes

Regular Reporting

Step 4




Lonsec stock selection filters

  • Each of our stocks is selected after a rigorous qualitative and quantitative analysis involving four stock filters – Industry, Company Quality, Valuation and Risk
  • A Lonsec model portfolio stock will rank highly in each category (ICVR) based on our analysis and experienced judgement.
  • Not necessarily looking to find the best stocks in the best industries but the best value stocks in the best industries.
  • The Valuation and Risk filters are there to minimise our downside.
  • Examples: HSP and PRY instead of SHL and RHC, CBA and WBC instead of ANZ and MQG, ORG instead of AGL (major decision at the time), BHP instead of RIO
a closer look at step 3 icvr stock filters
A closer look at Step 3 – ICVR stock filters


Industry positioning

Barriers to entry

Recurring- revenue

Growth rates


Return on Equity


Free Cash Flow

Dividend history

Management- experience and track record

Management- incentives and stake in equity

Corporate Strategy

Corporate- Governance

Balance sheet- strength


Enterprise Value / EBITDA

Market Cap. / Free Cash Flow


Stock Price / Cash EPS

Stock Price / Dividend PS

Market Cap. / Book Value


Key macro-economic & weather- sensitivities

Key customers and suppliers

Government influence

Level of recurring- revenue

Barriers to entry

RCompanyRisk Rating

Balance sheet- strength

Free Cash Flow

Corporate Strategy

Corporate -Governance

Market –Capitalisation

Share liquidity

Major shareholders



Supply & Demand

Key Macro-economic variables

Growth Rate


Barriers to entry

Return on Capital

Government intervention





core model portfolio
Core Model Portfolio


To deliver strong absolute returns, over the medium to long term,

through a diversified “blue-chip” portfolio invested across a number

of industries.

Portfolio Rules

Investment universe ASX TOP 150

Benchmark ASX TOP 100 Accumulation Index

Min. no. of stocks 10

Min. no. of industries 8

Individual stock limit 12.5%

Cash weighting 0%

LPT weighting 0% (refer Property Asset Allocation)

Targeted portfolio turnover 20-30% pa

core model portfolio1
Core Model Portfolio

Portfolio Profile

Current no. of stocks 12

Cash weighting 0%

Top 3 sector exposures Financials 31.25%

Energy 18.75%

Mining 12.5%

Top 50 exposure 87.5%

Ex Top 50 12.5%

Current forecast cash yield 3.9% (5.4% gross)

Inception date 17/04/2000

case study recent change to core portfolio
Case Study – recent change to Core portfolio
  • While TLS looks attractive from a bottom up view (PER 10x, Div yield 8.8% ff) the top-down outlook is very uncertain
  • Govt plans for a National Broadband Network and the structural separation of TLS creates great uncertainty over TLS’ future earnings and capital structure
  • TLS does not pass the Industry and Risk filters
  • Private healthcare industry has strong fundamentals (ageing and rising population, rising participation rates, 4 major players)
  • PRY well positioned in Medical Centres and Pathology
  • PRY valuation is attractive (PER 13.4x, Div yield 5.7% ff)
  • Risk has been significantly reduced after recent capital raising
lonsec direct model portfolios
Lonsec Direct Model Portfolios


  • Investment Philosophy - Active, focused on absolute returns, top-down process, high conviction portfolios
  • Investment Process – Four-step, top-down process with four stock filters (ICVR); risk mitigated at the portfolio and stock selection level
  • Two model portfolios – Core and Income
  • Seeking strong absolute performance over the long-term