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Investors are on the defence and for good reason.

European and US debt issues, wars, inconsistent global economic forecasts and many more questions than answers see investors heading for the sidelines. At best, it appears the only certainty is wild volatile swings in financial markets – at least in the short term.

Fears of systemic risk have the bears speculating about a global financial crisis mark 2. What we do know is there’s no quick fix. It’s in this environment that James Georges, of Patersons Securities, offers a list of stocks he believes can withstand sharp volatility and present good value on signs of an improving global economic outlook.

Five of his six stocks he classifies as “earnings defensive”, and he has included a highly speculative stock for risk takers. “Defensive earnings stocks offer investors an opportunity to hedge their portfolios against lower periods of macro-economic activity,” he says. “Typically, defensive companies are those which display relatively inelastic earnings profiles during soft or recessionary periods. As the market views defensive earnings companies as safe havens, they can often trade at higher premiums in volatile times.”

Vocus Communications (VOC)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

 

As a wholesale provider of telecommunication products, Georges says Vocus Communications is well placed to capitalise on continuing growth in internet traffic, data volumes, the increasing trend to outsourcing IT requirements and the stgeloping cloud computing market.

It recently agreed to buy a 59 kilometre dark fibre network for the Melbourne and Sydney central business districts for $3.95 million. Dark fibre enables the company to provide bundled metro fibre services with existing data centre and IP Transit products on a network entirely owned by Vocus. Georges says to build the same network from scratch would cost much more than $3.95 million without taking into account time delays associated with approvals and construction.

Georges says the company will look to roll out additional fibre on the back of new customer agreements. He says the strategic move into dark fibre will become earnings accretive in the second half of 2011. “Dark fibre is becoming an increasingly relevant product for internet service providers and corporate entities,” he says.

Computershare (CPU)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

Often referred to as a global registrar, administering more than 100 million shareholder accounts for more than 14,000 corporations across 20 countries, Computershare lived up to its reputation for acquisitions after recently agreeing to buy Bank of New York Mellon Corporation’s shareowner services business for $US550 million cash.

The market responded positively to the news, but the risk is regulatory hurdles, such as obtaining US anti-trust clearance. If the deal isn’t approved within a year, Computershare will pay a $30 million break fee to BNY Mellon. However, besides this acquisition, Georges says the company offers diverse services, such as specialised records management, strategic investor relations and market intelligence.

“With its scale, expertise, strong balance sheet and low capital requirements, Computershare should generate solid long-term growth,” he says. “Diversification across many regions, and increasingly in non-equity market activities dampen earnings volatility. The combination of global scale and sophisticated technology underpin a strong competitive advantage.”

Westpac (WBC)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

The European debt crisis, a sluggish US economy and the prospects of slower lending and credit growth in Australia has taken a toll on bank share prices. Georges says Westpac has been recently trading on an attractive full-year 2012 price/earnings ratio of about 10 times and a fully franked dividend yield above 7 per cent.

“Westpac is good value,” he says. “Over the decades, the banks’ increasing share of fee based earnings has helped smooth their cyclical earnings, which have been affected by tight credit markets. Management is sound with a strong focus on existing businesses and capital management.”

He says expanding its wealth management presence has transformed Westpac into a diversified financial services house. He says reincarnating the Bank of Melbourne provides local identity and complements the St George Bank brand in New South Wales. “Westpac has been a strong performer within its peer group over the past decade with a consistent dividend payout ratio,” he says.

Metcash (MTS)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

 

Value conscious shoppers and falling prices across some product lines didn’t stop Metcash from recently delivering a 6.1 per cent rise in full year net profit after tax to $241.4 million. The company lifted reported revenue by 7.4 per cent to $12.46 billion.

Despite challenging market conditions, management remains optimistic about the future on the back of a resilient business model, organic growth opportunities and strong customer base. The company lifted reported earnings per share by 6.1 per cent to 31.5 cents and the dividend by 3.8 per cent to 27 cents. Georges likes the diversity of Metcash – grocery, fresh produce, liquor, hardware and consumer goods. Most certainly a defensive stock, which Georges describes as over-sold, but one with solid businesses that should benefit in line with any improvement in the Australian economy, irrespective of whether the Franklins supermarket acquisition gets the nod.

APA Group (APA)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

APA Group’s natural gas pipelines extend across Australia, delivering more than 50 per cent of the nation’s usage. It has interests in 12,700 kilometres of natural gas pipelines and minority interests in gas distribution company Envestra and the Ethane Pipeline Income Fund.

Georges describes APA Group as a “classic defensive earnings story offering an attractive distribution stream”. In February 2011, it announced a 10.4 per cent increase in interim NPAT to $70 million and a 6.4 per cent increase in operating cash flow to $170 million. Distributions for the half-year were up 4.8 per cent to 16.5 cents. On June 20, 2011, it anticipated a final distribution of 17.9 cents. “Together with cash and committed undrawn facilities of $650 million, APA is well placed,” Georges says. “We see few downside risks to the company’s earnings forecasts.”

Capitol Health (CAJ)

 

Chart: Share price over the year to 24/06/2011 versus ASX200 (XJO)

Through organic growth and acquisitions, Georges says Capitol Health has become Victoria’s third largest diagnostic imaging provider. Recently trading at 4 cents, this is a highly speculative company, but Georges says it operates in a defensive sector. He says it also operates 28 radiology clinics and associated practices across Melbourne and regional Victoria and offers a full range of procedures ranging from basic x-rays through to specialising in nuclear imaging.

Georges says Capitol Health has signed a heads of an agreement to acquire three major and two minor clinics in Melbourne and a portfolio of radiology clients. “We expect the acquisitions to proceed,” he says. “As a result, we estimate these clinics and clients will add revenue of $6 million and EBITDA (earnings before interest, tax, depreciation and amortisation) of $900,000,” he says. 

COMPANY CODE SHARE PRICE CLOSE
Vocus Communication (VOC) $2.57
Computershare (CPU) $8.92
Westpac Bank (WBC) $21.37
Metcash (MTS) $4.16
APA Group (APA) $3.95
Capitol Health (CAJ) 4 cents

 

>>Back to the newsletter to view other articles – June 25th 2011

Price current to market close, 24 June 2011

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