How does the Australian Market Measure Up?
We have found the market to be a little frustrating in recent times. Through the various market ups and downs the sort of high quality companies we like to invest in have generally remained well-supported, whereas many of the lower-quality companies – a large number of them related to resources, have been getting cheaper. Given the uncertain prospects for this latter group, our overall feeling is that the market does not offer particularly good value at the moment, and we have a significant proportion of our funds in cash.
For some context, we can look at valuation metrics across different markets. Bloomberg handily prepares a “valuation score” for individual equity markets by taking an average of various simple metrics including, price to earnings, price to book, dividend yield and others.
The Bloomberg summary for developed markets is set out below. The valuation score is an average of the individual measures set out to the right. In aggregate, the conclusion appears to be that Australia offers relatively good value, second only to the Hang Seng Index, which is a runaway winner.
Looking more closely however, the picture gets a bit more complex. On several of the individual valuation measures, including Enterprise Value /Earnings Before Interest, Taxes and Amortization, Price to Sales and Price to Book – the Australian market looks relatively expensive.
The thing that pulls up the average score for Australia appears to be its dividend yield which is well ahead of any of the others at 5.8 per cent.
This doesn’t look like an encouraging set of numbers to us. The dividend yield seems to be implying that Australian corporates are paying out almost all of their profits as dividends, and reinvesting very little in growth. This may keep income-driven investors happy in the short run, but it doesn’t bode well for longer term growth. Ultimately, investors do well when companies can deploy incremental capital in attractive growth opportunities.
While we certainly understand the desire of many investors to eke out some yield in a low interest rate environment, our goal is to find investments that will stand the test of time. While those opportunities remain scarce we will keep a large slice of our funds on the sidelines.
Tim Kelley is Montgomery’s Head of Research and the Portfolio Manager of The Montgomery Fund. To learn more about our funds please click here.
Tim joined Montgomery in July 2012 and is a senior member of the investment team. Prior to this, Tim was an Executive Director in the corporate advisory division of Gresham Partners, where he worked for 17 years. Tim focuses on quant investing and market-neutral strategies.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
Patrick Poke
:
Frustrating indeed, I’ve had similar experiences myself. It can certainly be tempting at times like these to settle for poorer quality or overvalued companies, but the self-control to wait for the right opportunity is what separates the winners from the losers in investing.
There has been some interesting price movement in Oz Forex recently however. It seems to me to be a very high quality company with promising organic growth opportunities and potential macro tailwinds (central bank tampering induces currency volatility which drives business). The orderly retirement of the CEO hardly seems cause for major concern, and the market’s reaction to the Swiss situation was just plain silly. After the recent falls it looks like a buying opportunity to me.
Roger Montgomery
:
Perhaps some of the pressure on the price can also be attributed to a weakening in sentiment about the magnitude of disruption that these businesses might actually cause the banks. of course, if that is the case Patrick, that could indeed be an opportunity.
Patrick Poke
:
That’s certainly a possibility Roger, and one I’ll consider carefully. Based on my current view I feel there’s more than enough potential for disruption to justify the current share price, but we’ll see if this view stands up to further scrutiny.
Andrew Legget
:
Thanks Tim, i have been interested in seeing a list like this for a while. Was more focused on average pay out ratios for developed markets but the dividend yield one is a good as well.
I am sure you are exactly right, it has long been my thought that Australian companies are too eager to increase dividends than reinvest. I am sure if they reinvested more we might also have a larger selection of “quality” companies as well and have a better outlook for the long term of the economy.
Roger Montgomery
:
And we’d have some seriously higher valuations and shares prices too!