Devon Funds Morning Note - 13 March 2024

Wednesday 13th March 2024

Global

US markets rallied on Tuesday with the Consumer Price Index for February coming in line with forecasts on a month-on-month basis, but slightly higher than expected annually. The Dow gained 0.6%, the S&P500 rose 1.1% and the Nasdaq rallied 1.5%, despite the data reinforcing that inflation is proving persistent in places, and justifying the Fed’s cautious approach to cutting interest rates. Tech stocks were to the fore with Nvidia surging more than 7%, while software giant Oracle soared 12% to a record high after results trounced earnings estimates. Airlines stocks were going the other way, with more problems at Boeing. The stock fell 4%, and is lagging on deliveries, with a regulatory audit also revealing dozens of manufacturing issues with the 737 Max jet.

Headline US consumer prices increased at a 0.4% month-on-month pace in February, which was up on the 0.3% reported in January. On a year-on-year basis inflation rose from 3.1% last month to 3.2%. A 2.3% jump in energy prices pushed headline CPI higher, while food prices were unchanged on the month. Stripping out these volatile items, core CPI rose by 0.4%, taking the annual rate of increase down one tenth of a percentage from the previous month to 3.8%. On an annual basis, the prints came in slightly above estimates, with prices for used cars, air travel and clothing all picking back up in February. Some items are up in the double digits on a year ago, including a category which impacts most Americans – motor insurance – up 20% on a year ago.

Coming on the back of a hotter than expected CPI print in January, February’s release effectively vindicates the Federal Reserve’s decision to push out the proximity of rate cuts. This is while cost of living pressures continue to be relevant to many Americans. A recent Gallup poll found that 63% of respondents believe that prices have caused them severe or moderate financial hardship. The overall confidence index improved to its highest levels in two years despite 45% of those polled still rating the US economy as “poor” and 63% saying it is “getting worse not better.” The Fed will also be mindful of the impact that high rates have on an already challenged consumer.

The view that rate cuts will happen before too long nonetheless drove technology stocks higher. Sentiment was boosted by Oracle, with the world’s third largest software company topping earnings expectations on quarterly revenues of US$13.3b. Oracle said that its cloud services and license support segment saw a 12% rise in sales during the period, due in part to a spike in demand for…. AI servers. The company said it was committed to hitting a previously stated target of US$65 billion in sales by 2026. Data centres are a big story, with CTO/founder Larry Ellison saying “We’re building twenty data centres from Microsoft and Azure, and they just ordered three more this week.”

Travel stocks were lower, with issues at Boeing having a knock on impact on airline customers. Southwest Airlines fell 15% after it said it have to reevaluate its 2024 financial forecasts because of delivery delays this year. The airline said it has stopped hiring pilots and flight attendants. Boeing was in the news in NZ this week as 50 were injured on a LATAM flight from Australia after the aircraft dropped abruptly mid-flight. The plane maker has had a run of issues, with the most high profile being when a door plug blew out of an Alaskan Airlines flight in January. A subsequent investigation by the FAA in the US has raised more issues, with the company reportedly failing 33 out of 89 tests during a 6-week audit of manufacturing processes.

Across the Atlantic, the FTSE100 hit a 10-month high, jumping 1% to 7,747. Wage growth is slowing down in the UK, rising 6.1% in the three months to January, back at the levels last seen in October 2022. European indices were buoyant. The DAX in Germany and CAC in France rose 1.2% and 0.8% respectively – both indices closed at record highs. Volkswagen jumped 3% as Porsche (which it owns) announced it is launching four new car ranges in 2024 in the form of the Panamera, Macan, Taycan and 911 model lines. Porsche said it expects profitability to decline this year, amid tougher economic conditions, but upped its dividend following an 8% jump in operating profit in 2023 to €7.3b.

Cars were also out of the front in the Hong Kong market. Chinese smartphone maker Xiaomi jumped 7% after announcing it will start deliveries of its first electric vehicle this month. The Hang Seng itself jumped 3%, and has now rebounded around 14% from its bear market low in January. The Nikki has had a stonking 2024 (+~17%) but was flat on Tuesday. The Japanese Corporate Goods Index rose a more than expected 0.6% year-on-year in February and may renew calls for the Bank of Japan to move on from its negative interest rate policy.

New Zealand

The kiwi market was lower on Tuesday, with the NZX50 edging down 0.37% to 11,829. On Friday the benchmark lifted 1.01%. Fisher & Paykel Healthcare dipped 0.61%. Merdian fell 2.3%. On the upside, Vista rallied 1.8%.

Synlait Milk fell 5.3% to a record low. The company’s half year results are due on 2 April, and the progress on debt reduction/asset sales will be in focus. Synlait’s partner A2 Milk is having a much better time of it, with the shares adding 0.8%, extending year to date gains to 40%. A2 delivered one of the stronger results from the earnings season, and has been taking greater share in a declining market in China, while the US has become an emerging second frontier for growth.

Aviation supply chain issues are also having an impact on Air New Zealand (-0.8%).

The carrier has paused its Auckland - Chicago route from late March to November due to availability challenges with the Rolls-Royce Trent 1000 engines. The pause is not expected to impact the airline’s full year guidance for FY24.

A data release from Stats NZ highlighted the challenges facing companies exposed to the kiwi consumer. The value of electronic card transactions for February declined 1.8%/$120m. Spending on motor vehicles (ex fuel) rose as did services, but spending on consumables and durables both fell 0.9%. Spending on apparel was 1.5% lower. At least we are spending less on fuel, which was down 3.7%. Hospitality spend has also weakened.

The numbers also do not tell the full story of the extent to which kiwi consumers have closed their wallets. The figures are not adjusted for inflation, and are also against the backdrop of a rising population. On a per capita/real basis, spending has gone sharply into reverse.

A shrinking retail market doesn’t mean that there cannot be winners in the retail landscape. As we have seen offshore, some retailers here are doing better than others. Briscoes released full year results this morning. Sales for the full year ended 28 January 2024 were a record at $792.0 million, up 0.78% on a year ago. Both the Homeware and Sporting Goods segments performed, delivering positive sales growth +0.54% and +1.17% respectively (with growth in both halves). Net profit after tax (NPAT) of $84.2 million represented 95% of the record $88.4 million reported for the previous year. Briscoes has made good on its promised to protect a large portion of the margin gains delivered by Covid – the gross profit margin was 42.4% which compared to 39.4% in the period immediately prior to the pandemic. A strong profit performance has seen investors rewarded with a 3.6% increase in the full year dividend to a record payout.

Balance sheet wise Briscoes has cash of around $175m at year end, with no term debt which has seen the company benefit from rising interest rates. There is ample financial flexibility to fund new stores and refurbishments. The company is also investing in a new distribution centre in South Auckland. Briscoes expects a new warehousing facility at Drury to require expenditure, inclusive of land and building construction, of at least $100 million across the next three financial years. Overall management are cautious about the retail environment, but all expressed confidence in being able to continue delivering “superior results.”

Australia

The Australian market edged higher on Tuesday, with the ASX200 adding 0.1% to close at 7,712. Most sectors were in the green, with the gold sector prominent, rising more than 2%. The banks were mixed with CBA and NAB edging back from recent highs. The tech sector though gained more than 1%, and healthcare was also firmer. ResMed had a strong session, with shares in the sleep apnea treatment provider jumping 2.2%.

Iron ore prices though extended declines. BHP fell 0.7% to a 9-month low. Fortescue fell 1.2%. Iron ore has fallen to the lowest since October on concerns around China. Prices for the steel-making ingredient in China traded around US$115. Iron ore is still trading well above the US$100 level, and while weakening in recent months, are not collapsing. China has meanwhile committed to a 5% growth target for this year, and a weakening US dollar stands as a prospective tailwind to US$ denominated commodity prices.

Weakness in the US$ on rate cut bets has recently seen gold trade at record highs. Bellevue Gold was a top performer soaring 10% on a strong production update. Mining explorer Ramelius surged 4.7% after revealing that it expects A$1.7 billion in gold proceeds over the next 10 years from its Mount Magnet site in Western Australia. The company expects gold production to exceed 1.5 million ounces over the coming decade.

Lithium player Pilbara jumped 4.3% after it signed a new offtake agreement with Sichuan Yahua Industrial Group, one of the largest lithium hydroxide producers globally, and a company whose customers include Tesla. Shares in Alumina jumped 8% - the company has agreed to be taken over by its partner, US aluminium giant Alcoa, for A$3.3 billion in an all-stock deal.

Away from the miners, shares in supermarket wholesaler Metcash jumped 3%. The company updated that total sales for the 10 months to 25 February were up 0.9% on a year ago, with particular growth in liquor (+1.6%) and hardware (+2.4%). Total food sales excluding tobacco are up 5% on a year ago.

Finally, it was great to be back in Tauranga visiting clients yesterday, and also speaking to the Bay of Plenty branch of the NZ Shareholders Association last night. Needless to say there was plenty of discussion about what lies ahead for markets this year, and also the Port. One thing is for sure - the cruise ships are certainly back with hordes of tourists in Mt Maunganui.

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