Stock Takes: Interest rates stir back into life - What it means for stocks

Forsyth Barr expects apple exporter Scales' earnings to be constrained by labour shortages. Photo / Hawke's Bay Today

The Reserve Bank this week signalled that it is on a path to normality by saying it will soon pull the plug on its quantitative easing programme, so what will that mean for a sharemarket that has been a big beneficiary of ultra low interest rates?

When the Reserve Bank said its large scale asset purchase programme - aimed at suppressing interest rates - would end next week, the one-year swap rate shot up and the share market, which had already underperformed its peers so far this year, softened.

Share markets have been boosted by very low interest rates as funds sought out alternatives to fixed interest investments.

It may make take a while but Harbour Asset Management portfolio manager Shane Solly says investors will eventually turn their focus to what really drives sharemarkets - corporate earnings.

Solly says the Reserve Bank's move, now seen as strong precursor for a rate hike next month, made sense given the strength of the economy.

"At this stage there are no signs of excessive debt problems out there.

"There are no signs of excessive lending practices either, so it is the right time (for the Reserve Bank) to be withdrawing."

Solly points out the market has been underperforming since the start of the year, driven in part by declines in the yield-sensitive utilities in anticipation of an eventual turnaround in interest rates.

Could higher interest rates create issues for borrowers?

"We think that there is a long way to go, but personal balance sheets and business balance sheets are in good order," Solly says.

The eventual return to normal transmission will see a change of focus.

Solly, with an eye on the reporting season which starts this month, said: "Over the medium term, it's earnings that drive sharemarkets.

"If the economy is actually better, if companies have taken the chance to reset their business, then earnings will have upside," Solly said.

"We think that sharemarkets can continue to deliver an okay return.

"It's hard to see the same returns that we have seen in the last year or so - it's been so stonkingly strong.

"The outlook still supports growth assets doing okay but it might be a bumpy ride compared with what we have seen.

"Our view is that we will go from a peak rate of recovery to a decent, solid rate.

"In that environment, our market might be a little bit mixed."

According to Forsyth Barr, the market still looks pricey relative to history, on a price/earnings basis.

The broker's research shows that the 12 month forward weighted PE for the New Zealand market is currently 29.1 times, 27 per cent higher than the five-year average.

Harmoney up

Shares in Harmoney were very strong going into Wednesday's bullish market update.

Harmoney - Australasia's largest online direct to consumer personal lender - said it had delivered its highest ever month of "originations" - new accounts - in June 2021.

"This resulted in total originations for the second half of $250m, underpinned by a strong increase in new customer originations," the company said.

Harmoney shares were already on a roll before the company's announcement.

On Tuesday, the stock had rallied by 20c or 10.10 per cent to $2.18 - a rise of nearly 60 per cent in two weeks - although still under its November peak of $3.70.

Asked for comment about Harmoney's rally, pre-announcement: the NZX's regulatory arm, NZ Regco, said in a statement: "NZ RegCo Surveillance reviews trading ahead of price-sensitive announcements as standard practice, with a particular focus on trading that has resulted in significant share price movements." It did not comment further.

$2b for 2degrees?

The 2degrees "non-deal" roadshow has been trundling on in Australia, where the telco also hopes to list.

Presentations ended yesterday after the promoters conducted 32 Zoom meetings, exposing the company to 66 different funds both here and overseas.

A source involved with the offer said there was strong interest in what will be the largest initial public offer seen in a while.

Depending on the growth projections in the product disclosure document, the market cap is likely to be something close to $2b, the source said.

The roadshow for 2degrees - which set up shop 11 years ago - took place over two weeks.

Scales mixed

This year is shaping up to be a mixed bag for primary produce and logistics company Scales with suppressed horticulture margins partially offset by favourable dynamics in the pet food ingredients, according to Forsyth Barr.

"We re-balance our short-to-medium term earnings assumptions for Scales on the back of channel checks and our view that wage pressure is likely to be enduring," the broker said in a research note.

Scales is trading on a 24-month forward price earnings ratio of 19 times, in line with historic levels.

What's changed?

The apple harvest completed in line with expectations but the supply chain is challenging. Scales completed its 2021 pick, largely in line with pre-harvest expectations despite industry labour shortages.

"However, a combination of wage inflation and a higher proportion of a less productive domestic labour force has weighed on margins."

Forsyth Barr said while prices to date had been strong, it saw late season risk due to supply chain congestion.

Total export volumes to May 2021 are down 20 per cent on the prior year period, against the industry expectation of a 15 per cent decline.

The NZ sharemarket has underperformed other markets so far this year. Photo / File

"We lower our medium-term horticulture margin expectations on the back of wage inflation, which has primarily been driven by a shortage of suitable labour.

"We believe this dynamic is unlikely to change ahead of the next season given government rhetoric around migrant labour and limited RSE (recognised seasonal employee) allocations."

Scales had accelerated initiatives around automation of post-harvest operations in response, although these will likely take some time to implement.

On a brighter note, Scales' pet food business continues to benefit from tight supply and a surge in demand, driven by pandemic pet adoption rates.

Scales' Mr Apple business is New Zealand's largest, fully-integrated grower, packer and marketer of apples.

Castle Point profit

Boutique funds manager Castle Point Funds, a relative newcomer to the funds management scene, turned a $1.1m profit in the March year, from a $491,350 loss in the previous year, due in part to the success of its Ranger fund.

Castle Point was established in 2013.

"We feel very much part of the financial furniture in New Zealand now," co-founder Richard Stubbs says.

Castle Point last year won a mandate from the Bank of New Zealand to manage some of its transtasman funds.

"2020 was a very testing year for investors - professional and private."

Stubbs acknowledged that the market had benefited from the "tailwinds" of a very low interest rate environment.

"So we are very much focused on positioning our portfolios for what comes next."