Is there much upside left in the markets?

30th Jan '11 by Gray Woods

33 comments 18468 reads

I am creating this thread to try to gauge the opinions of others, as for me personally I am finding it very hard to really find any stocks out there that I feel are cheap in anyway, and the more I look at stocks, the more I see there appearing much more potential downside than up. As with the markets being at around 6,000 currently (where they have been lingering for a while) I just personally cannot see, even if everything goes perfectly over the next year, the markets finishing any higher than 6,500. But if something goes wrong, like another debt crisis or a slowing down of the emerging markets, I could quite easily see the markets fall right back to 5,000 if not lower. And though I note that there are opportunities to take basically a gamble on the resources sector stocks, hoping for a successful drill result (I have listed some of these opportunities coming up in Feb on my site, so click here if you wish to see them), I for the life of me cannot see any stocks that I would really call cheap. Does anyone else feel this way right now? Or am I just being too picky on prices?

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Vitulus

6th Feb '11

We should probably be discussing this on a thread for Inflation - but I'll carry on regardless.

I suspect that we are actually roughly on the same page when it comes to inflation.
I completely agree that too much inflation will certainly put company profits under a lot of pressure.

So to very simply surmise: some inflation is good, too much is not so good, but deflation is bad!

So I ask what pricing power a company has - over both suppliers as well as customers.
Can the company pass on rising prices onto their customers?
Does the company have the ability to keep input costs down?
An acquaintance of mine is a farmer that supplies Tesco. About two years ago he (and many others) received a letter from Tesco which was very short and to the point. It simply stated - "We will not accept any price rises whatsoever".
So what I want is a company with few competitors, lots of suppliers and lots of companies.
Hence why supermarkets often do quite well with some inflation.

So things I look for would be the Herfindahl–Hirschman Index (HHI), SSNIP effect (Small but Significant Non-transitory Increase in Price)... and various other metrics that, when I was studying Competition Law, we considered to be undesirable to a fair market. Now I am trying to profit out of it...

Anyway I thought I'd have a quick look a Stockmarket Returns against Inflation. Hence I went back to the S&P data from Shillers website. He provides S&P price data as well as CPI data from 1871.

The result we get is as below:

S&P v Inflation

Thank you for your comment on my Hightex Hightex (LON:HTIG) article. I also would love to see more secured contracts but then when that does happen the price will soon reflect it. The view that I take is that they are one of the few companies in the area, there are many projects coming up that will require their product, and their main competitor is Japanese and hence are 30% more expensive due to Yen/Euro rate. I am very confident that they will shortly be announcing new contracts; I suspect that we will probably see an announcement before Ludgate Environmental Fund has to release its next results.

Re: Avanti Communications (LON:AVN) - Again I' d like to see Hylas 2 up in space, and Hylas 1 fully utilised. But H1 has just been put up, and I reckon it won't be long before it is. As for H2 - I take great comfort in the insurance that it has - thus should launch fail it only causes a delay of 18-36 months. Even if it were to happen - you could still use a high(ish) discount rate, and it is still worth about twice what it is now - and should all go well then there is an awful lot of upside to this one.

Re Morrisons (LON:MRW) - yes lots of work to do - but it is certainly the cheapest of the supermarkets. Once you capitalise operating leases it is just less expensive. As for Tesco (LON:TSCO) - yes it looks great, but that is reflected in the price; and if they find the same problems in Asia as others have before (think Carrefour) then there might be greater downside to thier price.

As for Paypoint (LON:PAY) - I am still doing a lot of work on it, so won't comment much at the moment - The numbers look good, but there are a few concerns I am trying to eradicate - obviously the Camelot issue is still unresolved - so its back to my legal text books (which are quite dusty now) and then there is also the net revenue margins decline. I do worry about this, but fortunately it looks like the retailers are bearing the brunt of that.

emmany

8th Feb '11

Anyone see BG's results today, pretty impressive:

BG said its organic reserve replacement ratio was 229 percent -- 100 percent represents the level at which production is matched with new reserves additions -- a result which analysts at JP Morgan called "exceptional."

Good artilce on it:

http://www.iii.co.uk/news/?type=reutersnews&articleid=TRE717203&feed=Bus&action=article

This surely has to make them more appealing as an acquistion target than ever before, especially as they have increased targets and has thus far suffered little disruption from the troulbes in Egpyt and Queensland.
Would you agree GW and EE?

Gray Woods

It certainly makes them look a better company, as the results are very impressive, but I feel at current the results were that good that it actually makes a take over less likely, as the results have only reaffirmed how good a company £BG are, therefore they have likely increased the cost a company would have to pay, and considering how substantial a cost this may be, at current I stick by my current opinion of that I cannot see a company even if they have the finances, with the desire to risk buying (see my earlier post for the reasoning). But one thing the results have done I feel is shown how strong a company BG is becoming, and you never know, maybe they will rather than be taken over, make some takeovers themselves at some point, and raise themselves to the status of a major over the next ten years or so, as they certaintly have the balance sheet to afford a takeover if oil and gas prices continue to remain as buoyant as they are at current.

15th Feb '11

Vitulus

You seen the press release by Morrisons today:

http://www.morrisons.co.uk/corporate/Press-office/Corporate-releases/Morrisons-announces-the-first-stage-of-its-e-commerce-strategy-with-the-acquisition-of-Kiddicare/

http://www.iii.co.uk/news/?type=reutersnews&articleid=TRE71E1BN&feed=Bus&action=article

I have to say I was not expecting this, as I feel it is a strange way to get into the online world, as though the business they have purchased seems sound:

http://www.kiddicare.com

Buying a baby sales business was not the sort of online move I would have thought best for a supermarket chain trying to get online. But then again I do note this statemant:

“This acquisition brings not only a respected, successful and fast growing specialist retailer into the Morrisons group but also a robust, scalable and highly advanced technology platform around which we can begin to build our e-commerce offer.

“We are delighted to welcome Scott and Elaine Weavers-Wright to Morrisons, along with their team. They are two of the most talented and respected operators of online retail today and their experience and track record with Kiddicare.com has been outstanding. Their knowledge and expertise will be invaluable as Morrisons builds its online business.”

Which does point at the fact that they are in reality making this purchase mainly to get the technology and the two owners on board. But £70m seems a steep price to pay for management expertice, but hopefully they know what they are doing.

16th Feb '11

Just noticed the news release by BHP Billiton, see the below right up of it:

http://www.iii.co.uk/news/?type=reutersnews&articleid=TRE71E6WJ&feed=Bus&action=article

Just to run through it, they have announced bumber profits, with a $10bn share buy back scheme. Also they have stated that any future attempts at acquisisions will be in the oil and gas sector. Therefore though I still stick by it being unlikely that BG (see earlier posts for discussion) will be taken over by BHP or anyone for that matter, with the share buy back likely being a sign they will not be a target (but then again, considering the size of their balance sheet it likely would not stop them if they really wanted them), it will certainly be interesting to see which companies come into the sight of BHP, and I would like to bet any market turn down could likely be the time that they may act if they have any companies in sight at current. Anyone got any views on likely targets?

Also in relation to BG, I note a recent broker report put there NAV at near 2000p from reserves of 16.7bn, which is expect to continue to rise over the next few years, meaning a takeover would require a bid of likely around £70bn, which I feel is makes them a very hard company to takeover, and still in my view destined to become a major alongside BP and Shell et al unless something changes.

Does seem odd from the face of it. But I think it is probably a good strategic move.
I don't know if 70m is too much without seeing Kiddicare accounts; also what cost savings can MRW take out from them, and how much time and cap ex does it save MRW to roll out their online offering?
The main thing that I like about it, however, is that it should put an end to the overhang caused by rumors/worries that they might bid for Ocado.

emptyend

Anyone see BG's results today, pretty impressive:.....

This surely has to make them more appealing as an acquistion target than ever before, especially as they have increased targets and has thus far suffered little disruption from the troulbes in Egpyt and Queensland.
Would you agree GW and EE?

Yes - but there is always the issue of size (only 3-4 likely buyers). I wish I'd bought into BG at £13 or lower - but at current levels there is quite a bit "in the price" already, unless the bid (already talked about for 4-5 years) actually arrives. They are just as likely, IMO, to sell their Brazil stake - especially as more positive news will increase interest there.

djpreston

They are just as likely, IMO, to sell their Brazil stake - especially as more positive news will increase interest there.

And yet another discovery for BG announced this morning but light on details:

BG Group today announced a new discovery of oil (approximately 26 API) in Block BM-S-10 in the Santos Basin, offshore Brazil.

The discovery well 4-BRSA-818 (4-RJS-668), known as Macunaima, is located in a water depth of 2134 metres, approximately 244 kilometres off the coast of Rio de Janeiro State.

Further evaluation of the discovery will continue in line with the National Petroleum Agency (ANP) approved appraisal plan.

BG Group has a 25% interest in BM-S-10 (Petrobras 65%, operator and Partex 10%).

BG simply has to be seen as THE quality play in the sector at the moment. How many of the giants are now looking back at their old ideas and thinking "If only we had pushed the button?" (Im looking at you RDS....)

I imagine its a bit like us as investors when we identify a great company but it never comes back to our target and we hold off and hold off and hold off as it slowly rises several fold....

I believe reported revenues for the last year were £37.5m, though that to my knowledge is all that has been released to date bar that revenunes have increased by 75% over the last three years.

Also in relation to Ocado, you are right there, as if Morrisons had attempted such a move I cannot help but think it would have been a terrible move that would have done nothing other than erode shareholder value, because as far as I can see, Ocado are well beyond overpriced.

Re Emptyend

They are just as likely, IMO, to sell their Brazil stake - especially as more positive news will increase interest there.

That is an interesting point to make, as I have been thinking that they would more likely go along the lines of expanding via making some of there own purchases over the next few years, taking themselves to the next level and becoming a major, but a divestment could be possible, as I would like to bet many of the majors as well as NOC's would be very interested in there Brazilian assets, as they would be a lot more affordable then as I said earlier trying to buy the whole company. It also in my opinion would bring BHP back into the equation, because as I said yesterday, with the $10bn share buyback, and $80bn five year expansion plan, BG, considering BHP's (Who I believe of the companies that could afford it, would be the only likely to actually attempt such a move - see earlier post for reasoning) recent takeover failures, I could not see them moving for BG despite them annoucing that they would be aiming for O&G sector purchases in the future, but I could definitely see them trying to purchase those assets of BG if they ever did come up for sale.

37.5m is what MRW released. But Kiddicares last accounts are available through companies house.
I may extend to spending the pound needed to access them.
For me the main factor (other than laying Ocado fears to rest; hopefully) is the time it saves them in rolling out an online offering.
Furthermore the business is rather over capitalised. They could easily start looking to return cash to shareholders once they have sorted their strategy out. This could be either in form of buybacks of divis... I would quite like to see them raise their divi. My calculations show that they could be yielding about 4.5% in about two years (at current share price). This would then put them in range of many income funds, and thus we could see quite a healthy ammount of capital appreciation of circa 30% leaving them to yield 3.5%. And that is without them increasing ROE, ROC or any growth.

17th Feb '11

Furthermore the business is rather over capitalised. They could easily start looking to return cash to shareholders once they have sorted their strategy out.

That is a good point to make, but I feel they are more likely to use the money to try to catch up with their rivals who have been leaving them for dead recently. But if they did start to follow this strategy, something which if I thought they would, would change my investment opinion of them, then you are correct, the div could quite easily be increased to around 4.5% at current, let alone in two years, and if they continued to grow just with inflation, that should give a nice return over the next few years. But I am not convinced they will go this route, as I feel there balance sheet will be used for as I said expansion, with the goal being catch up. Hence why they need such a strong balance sheet. But I will be watching closely, as if I do get an inclanation that they are going to go down this route, then there is certainly a lot more room for growth in Morrisons that the others. Though going back to Tesco, the following I believe goes to show why they are my favourite still:

http://www.iii.co.uk/news/?type=reutersnews&articleid=TRE71G012&feed=Bus&action=article

As if they do increase revenue to £89bn by 2015 (and I would not bet against them, even without Terry Leahy), then you are looking at a safe steady gain of between 70-80% (not including div), which I feel for a defensive as safe as Tesco (The UK business secures them I feel) offers an excellent risk return, and the best of the UK's at current.

One last thing on Morrisons

For me the main factor is the time it saves them in rolling out an online offering.

That is what I instantly thought, and having looked over the site (http://www.kiddicare.com), it does look like the software is good, and the fact that they take all pay systems, and have a community means that there is everything there that they would need themselves. Though I am not sure how easy it will be to convert the tech to there needs, but if they can then they will certaintly have a very good site on their hands, whether it will have been worth the price? Only time will tell.

They are just as likely, IMO, to sell their Brazil stake - especially as more positive news will increase interest there.

That is an interesting point to make, as I have been thinking that they would more likely go along the lines of expanding via making some of there own purchases over the next few years

Expanding is of course a possibility - but it would require massive amounts of capital. Just look at Petrobras' funding needs!

If I were them I'd certainly be more likely to sell down than gear up.....I'm not sure that a huge position in Brazil that may come to dominate their portfolio is what they would want strategically.

Whatever the case, a deal of some sort involving Brazil seems highly likely.

21st Feb '11

Re Tescos - I completely agree that I would not bet against them. Consensus estimates are standing at EPS growth of 12.3% pa for the next three years. My problem is that most of that seems to be in the price. Also on an EV/EBIT basis the company is looking quite expensive (I am using an estimated market value of their debt rather than book value).
Morissons on the other hand are priced far more attractively and do not need to show any growth to justify their current rating.
I guess my point is that growth from Morissons will result in shareholders getting handsomely paid. In fact at the current price I reckon you'll get paid if Dalton Philips simply proves he can walk and chew gum at the same time, let alone use creative means of catching up with his rivals - which is exactly what I believe him to be dong right now.
I also reckon that Morissons has a far easier growth ambitions than Tescos. After Carrefours exit from Asia I am a little nervous. China is a hard place for western companies to crack - I won't bet against them - but I would rather not pay 415p for them either just yet.

2nd Mar '11

http://www.ft.com/cms/s/0/d059b53a-4447-11e0-931d-00144feab49a.html

So it looks more likely now that MRW will be returning money to shareholders.

Indeed it does, very good call Vitulus, £1bn buyback, and dividend's to be increased by £100m over the next two years (By my calculations at current that would give a near 4% yield). Seems they are going to do the smart thing and give the money back to shareholders rather than try to spend big to try to catch up to their rivals, which I think would have been foolhardy. I certaintly will consider adding some on any dips, as with Tesco.

Just to note, the only downside really was the founder sale, though then again, this could open Morrisons up to the takeover scene.

The family still hold circa 9%.
But I doubt they would refuse a serious approach.

Based on a higher ROE and higher Payout Ratio I've reckoned there is a 25.7% uplift to my target price for MRW
I had a TP of 2.1 (p/b) - I now reckon that could go up to 2.64 - though I've not unlevered betas there - which would obviouslty be affected by a buy back.

Also I assume you saw Paypoint today?
I was quite please with that - I guess my LLM in Competition Law paid off!

3rd Mar '11

Yea, I saw the PayPoint news, excellent result, and about time this issue was fully put to bed, and well done on getting in (I take it you did so), though I will be interested to see what they do now this issue is out of the way, as they now appear pretty much fairly priced, unless they have some form of new growth plan in place. I certainly will be watching them with interest to see what they do.

4th Mar '11

I think the cash generative nature of the business should warrant them a slightly higher rating. But furthermore I do see growth in this company. Whilst it is not a stella growth stock there are many opportunities for them:
1. There are still new contracts in the UK to be won - just yesterday they announced a deal with DWP.
2. They need to complete the intergration of Verrus and expand their revnue base from that offering.
3. Romania and other Eastern European countries... Romania is a country which only introduced direct debits 2 years ago. Most people still pay bills at their banks or in Utility shops. They are making good headway so far, and there is much potential for them.
4. There is the obvious growth from inflation, but without the heavy capex required by utilities.

Finally it would not take much more for them to be included in the FTSE250. Were this to happen we could find many institutions taking positions for the income.
The numbers I have so far suggest as much as 866.03 within 3 -5 years.
Though I have not yet validated or stress tested that model yet.

6th Mar '11

Valid points Vitulus, but it is international growth that will define them, hence why at current I felt they were fairly valued, as though they are making progress there, I would really like them to make a sustained plan, and push into the international market. Just to note though, even though i say they are fairly valued, due to their div I still feel they are worth holding.

P.S. Did you see the recent iii article on Avanti, its an interesting read, well balanced:

http://www.iii.co.uk/articles/14566/stock-watch-avanti-communications

10th Mar '11

I missed the AVN article - cheers.
For me the real key is Hylas 2 - and the fact it covers Africa.
Yes I'd be happier if the order book did not have the options - but I believe in the product offering and I find it hard to reconcile a dcf value of sub £5 when my conservative numbers show it to be at least twice that now that H1 is in the sky.

How about Morissons results today - 10% stake in Fresh Direct
commited to the 1bn buybak and raising divi by 10% pa.
I think speculation of bidding fro ocado can now be fully put to rest.
- and oh yes - they beat expectations.
But the price has not yet moved much... yet...

Is there much upside left in the markets?

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Gray Woods

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