The market response to Donald Trump’s surprise United States election win was emphatic. Gold sold off, bulk and base metals spiked, and resource stocks leapt. Investors saw Trump as a positive for US economic growth and the “risk-on” trade initially flourished.
The reaction, particularly in the resource sector, looks overdone. Not enough is known about Trump’s policies or whether he will soften his more controversial election promises. Risks abound, yet the market so far has been unequivocally positive on the election result.
Trump’s lower tax, higher infrastructure spending is resonating with investors. Markets believe a new era of infrastructure building in the US will boost its economy, drive higher commodities demand and in turn help the sluggish global economy.
Trump should be good for the US economy in the medium term, although not by as much as markets expect. The global economy has many headwinds and rising bond yields are a significant threat for equity market valuations.
I would not buy Australia’s big resource stocks at these levels. BHP Billiton and Rio Tinto have rallied more than 60 per cent from their price lows this year. Fortescue Metals Group has quadrupled from its low. Iron-ore, copper and coal prices are soaring, more on investor sentiment after the US election than on commodity/economic fundamentals.
Australian construction stocks with high US exposure offer better value. Higher infrastructure spending could boost employment and wages growth in Middle America, which in turn should support US housing construction.
US housing start forecasts have drifted lower this year, amid weakening consumer confidence and a decline in multi-residential construction projects. US homebuilder new orders are, in turn, easing – not a good a backdrop for building materials suppliers.
That could improve if Trump can lift US consumer confidence and get Middle America feeling more optimistic about its prospects and willing to buy new homes. I suspect Trump will help support an ongoing recovery in US housing over the medium term. Single-family housing starts remain a bright spot.
James Hardie Industries is a beneficiary. The supplier of fibre cement and various exterior and internal building materials earned 78 per cent of its revenue in North America in FY16. Plumbing group Reliance Worldwide is another with high US revenue exposure.
James Hardie has been cracking performer: the five-year annualised total return (assuming dividend reinvestment) is almost 30 per cent. The company rode the recovery in US housing construction after the sector was smashed during the 2008-09 Global Financial Crisis.
At $19.50, James Hardie is well up on its 52-week low of $14.24, but has drifted lower in the last few months from its $23.09 high. The company’s first-quarter FY17 result was below market expectation and the stock was due for a breather after strong gains earlier this year. Chart 1: James Hardie IndustriesSource: The Bull
James Hardie’s share price had drifted in the past few months. No doubt the market was waiting for the company’s interim, result, released this week.
James Hardie’s half-year result was steady with underlying earnings up 10 per cent and good cash flow generation on the same period last year. However, management gave earnings guidance of US$250-$270 million, below analyst forecasts of US$256-US$285 million.
James Hardie warned: “Although US housing activity has been improving, market conditions remain somewhat uncertain and some input costs remain volatile.”
The market was not impressed: James Hardie fell 2 per cent on the news.
At $19.09, James Hardie is on a forecast Price Earnings (PE) multiple of about 20 times FY18 earnings, consensus analyst estimates show. A median price target of $16.07, based on a consensus of 13 broking forecasts, suggests the company is overvalued.
I disagree. James Hardie can do better than the market expects as the US housing construction recovery continues in the next few years, partly driven by an increase in infrastructure spending (and the jobs it creates) and tax cuts.
The recent de-rating in James Hardie’s share price provides a more attractive entry point for a company that is strongly leveraged to the US housing recovery and to any upside from the Trump election win if it flows into consumer confidence and US housing starts.
The prospect of a slightly lower Australian dollar over the next 12 months adds to a positive investment thesis for James Hardie.
Tony Featherstone is a former managing editor of BRW, Shares and Personal Investor magazines. The information in this article should not be considered personal advice. The article has been prepared without taking into account your objectives, financial situation or particular needs. Before acting on the information in this article you should consider the appropriateness and accuracy of the information, with regard to your objectives, financial situation and needs. Do further research of your own and/or seek personal financial advice from a licensed adviser before making any financial or investment decisions based on this article. All prices and analysis at November 17, 2016.