The Australian stock market, as measured by the S&P ASX200 Index, rose by 3.1% in the March quarter continuing the market recovery which began in earnest last November. Dividends were mostly higher than the previous half, as concerns eased about the extent to which the pandemic and resultant economic downturn might affect corporate cash flows.
When dividends are included, Australian shares have recouped all of the declines suffered last year.
The recovery in share prices has been driven by a combination of a quick rebound in corporate earnings, the ongoing stimulatory actions taken by governments and central banks globally, and an acceptance by investors that more traditional market analytical ratios can be stretched a little due to the pervasive low interest rates.
Benign credit conditions have increased the attractiveness of share buybacks and other capital management initiatives. Buybacks have become commonplace as businesses take advantage of ultra-low interest rates to bolster corporate valuations. The concept of a buyback is straightforward. The company simply buys its own shares, usually via the public stock market, then cancels them. The effect of this is that there are less shares on issue so the company’s profits and assets per share are higher when divided into fewer shares.
If well managed a buyback can be an effective use of funds, particularly if the company has excess capital, borrowing costs are low, and there is a dearth of other business investment opportunities. However, buybacks increase corporate debt, and if the company pays too high a price for its own shares the strategy can backfire. Also, its sometimes perplexing that a business management cannot find anything better to do with shareholders’ funds but to buy their own shares. Boral is a current case in point, having just announced a large on-market buyback using proceeds from their divestment of their US based USG joint venture. Now Boral is a building materials business, so surely their management can find better operational expansionary opportunities than buying their own shares at a two-year high price. Perhaps another purpose is to reduce outstanding capital, so their largest shareholder Seven Group automatically increases its percentage ownership. Construction company CIMIC seems to be following a similar strategy.
Financial accounts were reported by most companies during the March quarter and were a mixed bag, though generally better than expected. The banks reported sharp improvements in their customer loan deferrals, allowing CBA for example to report a half-year profit of $3.9bn and pay a dividend of $1.50, higher than the previous Covid affected $0.98. Bulk commodity company earnings surged due to high volumes and prices for iron ore, allowing significant dividend increases across the sector. Telstra reported a solid result and provided more guidance on their business separation plans, agricultural company Costa surged due to better growing conditions, health stocks Sonic and Ansell had good results and strong share prices, and energy stocks Woodside and Santos bounced back from the struggles of last year.
The market outlook is satisfactory. On one hand the recovering economic and earnings cycle and low interest rates should underpin stock prices, but on the other the present valuations are fairly full, with some spots of overvaluation. It is possible that the inevitable but gradual withdrawal of the sugar hit provided by the central bank and governments will weigh on economic activity and create some market unpredictability. Given this, we expect the market trend ahead to be modestly higher, but not without a couple of bouts of sharp volatility.