The Wrap: Economy, Dwellings & Food

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Weekly Broker Wrap: economic outlook; dwelling starts/construction, food & beverages, and supermarkets.

-Recovery likely delayed to the December quarter
-Reduced demand for air travel, business accommodation likely
-Dwelling commencements to drop substantially
-Evidence supermarket price inflation is improving
 

By Eva Brocklehurst

Outlook

A medical crisis has become an economic crisis. That's how Westpac economists view the outlook, expecting the world economy will contract in 2020 by around -1.5%. The policies put in place to address the virus in Australia are expected to peak near the end of the June quarter, be maintained through to September, delaying a recovery to the December quarter.

National Australia Bank economists expect the economy will turn the corner by the December quarter and then bounce back very strongly. They assess the Australian government's rescue packages, particularly JobKeeper, should help avoid a full-blown depression.

The largest hit to the economy is most likely in the June quarter, where GDP could fall by around -7%, in their view. This places the economic impact a little below that likely to be experienced by the US, UK and Europe and similar to Canada and Japan.

Both economist camps expect unemployment to hit around 11-11.75% by mid year with little improvement subsequently over 2020. Unemployment is likely to still be around 7.5% by the end of 2021, the NAB economists suggest.

Inflation is expected to be around 1.5% in 2020 and drop to just 0.2% in 2021. This, in turn, may cause some problem for the recovery and signal the government may need to provide more fiscal help in 2021.

Beyond mid 2021, Westpac's economists expect growth to hold around trend, despite ample spare capacity in the economy, as legacies from the recession will act to constrain activity for some time.

Significant destruction in demand for commodities, amid a deep global recession, is anticipated and they anticipate the Australian dollar will move back into the US$0.50 range, with a gradual recovery back to US$0.62 throughout the June quarter.

Demand destruction is particularly likely for energy. However, Westpac's economists note that this could mean a significant reduction in production costs for many commodities, lowering the break-even price. Bulk commodities are expected to remain supported by soft supply.

Further out, the NAB economists anticipate a structural shift in the commercial property sector with substantial investments in technology to enable remote working likely to become more prevalent, reducing the demand for office space. Retailers may also reduce their footprint in the CBD.

There is likely to be an ongoing reduction in demand for air travel as well as accommodation for business purposes. A recovery in tourism is likely to be more protracted, with restrictions only likely to be removed as the virus is contained globally. Australia's education exports are likely to be affected by slower global income growth although a weaker exchange rate could offset this.

Dwelling Commencements

Australian dwelling commencements remain near their lowest level since 2013 and UBS revises down forecasts materially, expecting mobility restrictions will remain in place over coming months. Moreover, a drop in migration coupled with a sharp lift in unemployment will have a significant impact. So far, policy has not been aimed directly at housing to offset any negatives.

Dwelling commencements could drop to around 120,000 in 2020 from 174,000 in 2019, UBS assesses. This could even dip below 100,000 over coming quarters, which would be the lowest level since 1960. House prices are expected to decline at least -10% in the coming year and without an easing of mobility restrictions are more policy support could be larger.

Citi considers Brickworks ((BKW)), CSR ((CSR)) and Adelaide Brighton ((ABC)) the most exposed to a slowing housing market as they have around 65%, 55% and 20% of sales, respectively, exposed to new residential building.

Meanwhile, non-residential building starts and renovation activity remain patchy and the broker finds the outlook for a recovery difficult to assess.

Food & Beverages

In terms of the food & beverages sector, JPMorgan considers a2 Milk ((A2M)) the most defensive, although much of the tailwind from working from home should pass, while Domino's Pizza ((DMP)) should also gain from its delivery and value position.

Meanwhile, a challenged route to market for Coca-Cola Amatil ((CCL)) and Treasury Wine Estates ((TWE)) is envisaged. Treasury Wine is expected to take some time to clear existing inventory in China and softer aggregate demand could mean the oversupply in US persists.

Coca-Cola Amatil's pace of recovery is likely to be slow because of ongoing softness in international tourism (affecting Bali and Fiji) and the response from the Indonesian and PNG governments to the pandemic.

Supermarkets

There was a significant boost to supermarket sales in March but Citi suspects investor attention will now turn to whether this was temporary, and the incremental margin status.

Eating out is one quarter of total food expenditure in normal circumstances and therefore Citi expects around $6-7bn will migrate to supermarkets, given social isolation. This translates to a 6% boost to supermarket sales growth. Still, the broker is cautious about some of the headwinds which include trading down to private labels and smaller packs.

UBS highlights evidence that grocery inflation is improving. Price improvements have occurred across both dry goods and fresh, a result of both the easing of promotional frequency and supply-side challenges after the bushfires.

Both Coles ((COL)) and Woolworths ((WOW)) recorded positive price improvements in the broker's latest survey of prices. UBS also expects the promotional intensity will be reduced going forward, even beyond the pandemic impact, and move closer to the global developed average, as Australasia is currently an outlier.

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