Strong February reporting season heralds a promising year for Australian equities

As widely expected, February 2021 was a stellar reporting season for Australian equities. Despite an ongoing global pandemic, a recession not long in the rear view and the imminent unwinding of Federal Government stimulus, companies reported strong cash flows and, on the whole, solid dividends.

In much the same way that household budgets have benefited from reduced spending and steady, stimulus-backed income, many companies eliminated significant parts of their cost base through the course of 2020 and were rewarded with a profitability surprise as revenues rebounded.

Yields in local equities are now quite high relative to other asset classes, particularly for those investors who can access tax benefits from franking credits.¹

For many sectors, 2021 is shaping up to be a very strong year for earnings and dividends, but to this point performance remains a little uneven.

Here’s how the results shaped up for key sectors
A feature of 2020 for many analysts was the unexpected strength in retail, and in particular consumer discretionary. February’s results certainly told this story, with some standout performances in furniture and homewares businesses still benefiting from the shift away from inner city to the suburbs.²

Miners also recorded outstanding dividend growth, although on the small cap side of the market asset selection has been important, identifying those companies capable of bringing projects through to production and those suppliers who stand to benefit.³

Of the underperformers, utilities were especially prominent, on the back of low demand for electricity infrastructure and the continuing shift into solar, which is reducing baseload pricing. Real estate was another area of disappointment, as the owners continue to deal with the effects of the pandemic on demand for certain property types and income shortfalls associated with rental abatements.⁴

Dividends in tech stocks fell slightly, further highlighting concerns about over-valuation. Higher household savings and low interest rates have brought a large volume of new investors to the market, and there is a good appetite within this group for smaller tech companies. While it is great to see small tech firms starting up and scaling with capital markets, investors should be wary of overexuberant valuations. History shows that in most cases, hype is not your friend.

A solid base for improvement through 2021
If February’s results were encouraging, then we expect August’s reporting to be even stronger. While the Australian equity market is still towards the bottom of the dividend cycle, we believe the pickup is on the way. We expect growth in dividends should continue to be robust, even on lower payout ratios, as revenue conditions improve and produce better operating cashflows on more sustainable cost bases.

In our view, Australia is comfortably six-to-nine months ahead of most of the rest of the world in terms of our economic recovery and re-opening, and we should benefit from a number of favourable trends over the coming year.

The domestic boom in spending shows no sign of abating yet: incomes are steady and likely to be supported by accumulated savings as stimulus programs are progressively withdrawn; and the profits of what has been spent already have found their way to corporate bottom lines and cash reserves.

The housing boom looks set to continue for as long as the RBA holds rates at or near record lows: prices may be high but so is affordability. Rising house prices tend to produce a wealth effect which should further stimulate consumption.

Couple these two trends with a resources boom and the hope that increased global demand as vaccines and the northern summer keep turning the tide against the pandemic, we believe the outlook for Australian equities over the next twelve months, and potentially into 2022, should be very strong indeed.

¹ AMP Capital, FactSet, SQM Research. As at 31 January 2021.
^{2, 3, 4} Australian Stock Exchange, February 2021.