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5 Aussie stocks to benefit from global consumer trends

Dan Wasiolek and Glenn Freeman  |  16 Apr 2018Text size  Decrease  Increase  |  
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E-commerce and demographics should benefit companies in industries such as retail and travel, even as sector valuations remain slightly high, according to a report from Morningstar US.

Consumer cyclical sector valuations remain slightly overheated, with a weighted average price-to-fair value ratio of 1.04, compared with last quarter's 1.03. We attribute this to historically high consumer and corporate confidence figures, implying consumers' willingness to spend remains robust.

Global consumer spend stands to benefit from favourable sentiment and demographic trends. US consumer sentiment reached its second strongest reading since 2004, up further from strong levels through the fourth quarter of 2017.

US small business optimism index lifted to 107.6 this February, nearly matching the highest reading ever recorded of 107.7 in July 1983. We attribute a portion of this strength to added confidence around economic development resulting from the passage of tax reform late last year and reduced regulations.

We also see demographic tailwinds aiding consumer spend globally. For instance, we estimate that the number of baby boomers moving into retirement years is set to rise at a double-digit clip--every five years--through 2030. Also, younger travellers of the Generation X and millennial cohorts are now entering their peak earning years, representing around 70 per cent of the US working population in 2015, but growing to roughly 90 per cent in 2025.

Additionally, we believe China’s rising middle class is set to roughly double to more than a 200-million-person opportunity over the next decade.

Travel sector flying high

We see travel benefiting from favourable sentiment and demographic tailwinds, as it continues to see revenue and cost enhancing investments that stand to support long-term growth and brand, scale, and network advantages we award various operators.

For instance, cruise line operators have recently launched wearable and mobile app technologies that allow travellers to more easily book events and food, while also being able to control room electronics. This technology effort should improve traveller experience through less time spent booking itinerary and more time vacationing, leading to opportunities for improving yields for operators.

Retail strength

Outside of travel, mall traffic continues to decline, and e-commerce is steadily stealing apparel market share, surpassing 25 per cent in 2017 with the potential to exceed 40 per cent in the next five years.

Former competitive advantages, including a broad national brick-and-mortar footprint and the ability to garner economies of scale, not only no longer hold the advantage they once did, but now can also be viewed as a disadvantage.

We see e-commerce and, more specifically, Amazon.com as the largest disruptive force to existing apparel companies. Although e-commerce at its advent had some weaknesses that protected bricks-and-mortar retailers, advances in shipping, targeting, merchandise display, and checkout--in addition to shifting consumer demand for convenience, reviews, and information--have tilted demand more favourably to online retailers, in our view.

Despite Amazon's dominance, we see unique competitive advantages resulting in the parallel rise of strong niche players and brand partners. Interviews with five innovative, high-growth new entrants to the retail space yielded four key themes that we see as a sustainable source of moat in this new retailing world: Big Data capabilities, customisation, responsiveness of the supply chain, and distribution channel flexibility.

Based on these emerging capabilities, apparel manufacturers, off-price retailers, and select specialty retailers are best positioned to hold their competitive advantage, while our department store coverage and general apparel retail universe is likely at biggest risk.

Australian companies to watch

Four of the following five companies hold five-stars from Morningstar Australia, and as such, are currently regarded as under-valued.

"Narrow-moat Domino's Pizza (ASX: DMP) felt the pinch of a mixed first-half result, but we see the firm's issues as short term. We maintain our $53 per share fair value estimate, with shares screening as undervalued at current prices," says Morningstar equity analyst, Johannes Faul.

Aftermarket auto parts company Bapcor (ASX: BAP) "continues to trade at a meaningful discount to our $7 per share fair value estimate," says Morningstar equity analyst Daniel Ragonese.

"A core attraction is resilience in demand for aftermarket auto parts, and in particular, the trade segment, which accounts for most of Bapcor's earnings," he says.

Ragonese is also positive on pet care retailer and veterinarian service company, Greencross (ASX: GXL), which was upgraded from a hold or 3-star rating to 5-stars--previously "accumulate".

"We believe the company should continue reaping the benefits of its one-stop-shop strategy, which involves continued integration of pet care and veterinary services within the retail network. This is Greencross' unique point of differentiation, and key to our positive view on the company," he says.

His third four-star stock is in quite a different area of retailing, in providing funeral services. InvoCare (ASX: IVC) holds a narrow-moat and a four-star rating, with Morningstar "attracted to the resilience of the funeral services industry".

"High market share and a strong branding position should allow InvoCare to continue to achieve regular modest price increases. Customers, typically the family of the deceased, are relatively insensitive to price, given the highly emotional context surrounding the service," Ragonese says.

In more traditional retail, department store Myer Holdings (ASX: MYR)--which holds no economic moat, partly due to the growing threat of e-commerce giant Amazon and others--continues to screen as undervalued, says Morningstar's Faul.

"Times are tough for Australian department stores, and this pressure is unlikely to let up soon…but management is following a clear strategy to cope with the challenges facing the sector.

"Key strategic targets include a more concentrated physical footprint, greater cost efficiencies, productivity gains, and investment in online capabilities to drive sales and profitability," he says.

Dan Wasiolek is a senior equity analyst with Morningstar, based in Chicago.

Glenn Freeman is a Morningstar senior editor, based in Sydney.

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