How Inflationary Pressures Impact Broader Financial Sector in NZ – 2 Stocks to Consider

Company Overview:

Kingfish Limited (NZX: KFL) is the New Zealand-based investment company. Westpac Banking Corporation (NZX: WBC) is the banking company which provides the range of consumer, business and institutional banking and wealth management services through the portfolio of financial services brands as well as businesses. Kalkine’s Sector Report covers the Key Financial Metrics, Risks, Outlook, Technical Analysis along with the Valuation, Target Price, and Recommendation on the stock. 

I. Sector Landscape and Outlook

On 16 August 2023, the Monetary Policy Committee decided to maintain the Official Cash Rate (or OCR) of 5.50%. The present level of interest rates has been constraining the spending, hence, inflation pressure, as anticipated as well as required. The Committee decided that OCR is required to stay at restrictive levels for the foreseeable future. This is to make sure that annual consumer price inflation returns to 1% - 3% target range, while supporting maximum sustainable employment. The economic activity in NZ witnessed a marginal decline in the first quarter of 2023. Recent data was consistent with the outlook about lower economic growth in the coming year. The house prices have managed to stabilise in past few months, at levels well below late 2021 peak. This lower level of house prices is consistent with the decreased spending on housing-related goods as well as services.

Even though the demand is slowing, there are numerous near-term factors which are supporting demand and inflation amidst increased interest rates. Notably, exceptionally good pasture growth conditions in mid-2023 supported dairy and meat production. As the result, the volume of farm-based exports have been supported. The tourism recovery has been supporting broader demand.

Sector lending summary – Banks & NBLIs

As per RBNZ, housing lending stock witnessed a rise of $1.2 billion (or 0.3%) in the month of June 2023, which was up on the $799 Mn rise reported last month as well as the $1.1 Bn rise reported in the month of June 2022. Notably, this was the largest monthly increase which has been reported since November 2022. The personal consumer lending stock rose $74 Mn (or 0.5%) in June 2023, the highest monthly increase this year. The annual growth increased from 3.7% to 4.6%, its highest level since the month of September 2018.

As per the release, business lending stock increased $497 Mn (or 0.4%) in June 2023. Annual growth declined for the 7^th consecutive month, down to 3.0%.

Exhibit 1: Lending Pattern Since March 2020 – Banks and NBLIs

Data Source: This work is based on/includes rbnz data which are licensed by rbnz.govt.nz for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Created by Kalkine Group

Credit Card Spending Patterns

RBNZ has released credit card summary report dated 24^th July 2023, wherein, seasonally adjusted total billings in NZ witnessed a rise of 1.9 percentage points in June to $4.4 Bn. The seasonally adjusted domestic billings on NZ issued cards stood at $3.9 Bn in June, reflecting a rise of 2.4 percentage points from May 2023. The release also mentioned that overseas billings on New Zealand issued cards were $0.6 billion and this was the highest value recorded in the month since August 2019.

Total credit limits amounted to $21.2 Bn (not seasonally adjusted) in June, reflecting a decline of 0.8% as compared to June 2022.

An Overview of Current Insurance Trends

The extreme weather events in the North Island led to significant economic disruption as well as physical damage to the affected households, businesses and property. As per the Financial Stability Report May 2023, the current projection is that the Auckland Anniversary Floods and Cyclone Gabrielle would be resulting in total insurance claim costs of $1.6 Bn - $2.1 Bn and $1.4 Bn - $2.1 Bn, respectively. NZ’s financial system as a whole has proven to be resilient to such events, Also, institutions are working with and supporting the affected customers.

Moving forward, events like these might accelerate the adoption of risk-based pricing as well as reduce the availability of flooding insurance in certain areas. Banks would require to consider the impacts this would have on mortgage portfolios. Even though most of the cost of claims from North Island weather events would be met by the reinsurance, there is expected to be an ongoing impact on insurer profitability because of reinsurance excesses. Despite headwinds, the insurers’ solvency is anticipated to remain above the prudential requirements.

Exhibit 2: Trends in Total Liabilities and Total Insurance Liabilities (NZD Mn)

Data Source: This work is based on/includes rbnz data which are licensed by rbnz.govt.nz for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Analysis by Kalkine Group

Index Performance:

The S&P/NZX All Financials Index fell by ~1.05% versus ~2.65% decline in the S&P/NZX 50 Index.

Exhibit 3: S&P/NZX All Financials Index vs S&P/NZX 50 Index

Source: REFINITIV

Key Risks and Challenges:

As per RBNZ, increased number of downside risks to the global economic outlook are present. Notably, broadening inflationary pressures are forcing central banks for the tightening of monetary policy.

The higher interest rate environment exposed some fragilities present in the global financial system, mainly where risks were inadequately managed. The failure of 2 medium-sized US banks and Credit Suisse in March highlighted that investors could lose confidence in the broader financial system at the much rapid pace. NZ households are witnessing higher debt-servicing costs as borrowing reprices to the increased interest rates.

Exhibit 4. Key Risks in Financial Sector:

Source: Analysis by Kalkine Group

Outlook:

RBNZ has stated that labour shortages in NZ have eased but still remain elevated. Additional labour supply has been coming from more New Zealanders entering the labour force as well as from increased net immigration since the reopening of borders. However, the overall effect of immigration on inflation remained uncertain, as immigrants also create increased demand in the broader economy. 

Overall, the NZ economy has been evolved largely as expected earlier, although, inflationary pressures are anticipated to be slightly higher in the coming years. Interest rates might be required to remain near current levels for slightly longer in order to slow demand. Lower demand would be helping in reducing pressure on available labour as well as capital resources in the economy. Notably, global supply chain pressures which were developed during COVID-19 pandemic have substantially eased over the past year. Also, the opening of NZ’s border resulted in continued recovery in tourism, international education, as well as migration.

Banks have maintained conservative lending standards for the commercial property in the past few years, making sure that borrowers have enough financial buffers in place. As some stresses emerge, banks in certain cases are in the position to look “through the cycle”, and relax covenants which are related to debt servicing as operators are adjusting to increased interest rates and utilise buffers.

Apart from the sector-specific factors, an analysis on three NZX-listed companies is provided. This report covers their insights, outlook, performance and potential as expected to be delivered in the near to medium term.

1) Kingfish Limited (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD 438.7 million, Annual Dividend Yield (TTM)¹: 9.18%)

Business Description:

Kingfish Limited (NZX: KFL) is the New Zealand-based investment company.

Outlook:

The company has reported undiluted NAV as at 16^th August 2023 stood at $1.3712. The NAV is unaudited and net of fees and tax. In the month of July, the company’s gross performance return rose 0.4% as well as the adjusted NAV return increased 0.3%. This compared to the benchmark S&P/NZX50G, which rose 1.2%. The company stated that inflation has been subsiding and interest rates are more stable but at the higher levels.

Global economy seems to be more positive and there are opportunities for the active management.

Technical Overview:

Technical Commentary:

On the daily chart, KFL prices are trading near the horizontal trendline support zone. Moreover, the momentum oscillator RSI (14-period) is showing a reading of ~43.2439 level. However, the prices are trading below the trend-following indicators 21-period SMA, which may act as a resistance zone. An important support level for the stock is placed at NZD 1.17 while the key resistance level is placed at NZD 1.55.

Source: REFINITIV

Stock Recommendation

Considering the facts above, a ‘Buy’ recommendation on the stock has been provided at the closing market price of NZD 1.32 per share, down by 1.49% as on 17 August 2023. 

2) Westpac Banking Corporation (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD 81.4 Bn, Annual Dividend Yield: 6.87%)

Business Description:

Westpac Banking Corporation (NZX: WBC) is the banking company which provides the range of consumer, business and institutional banking and wealth management services through the portfolio of financial services brands as well as businesses.

Outlook:

WBC has announced a restructure in order to support its next strategic phase. The changes follow the period of simplification for the bank as well as would position it for the future growth. In order to sharpen the focus, WBC is appointing dedicated Group Executives responsible for the Consumer banking and Business banking. Also, it is establishing the standalone function to accelerate the Technology simplification and would move Operations to Corporate Services, creating expanded shared services team.

WBC’s priorities are revolving around disciplined growth as well as cost reset.

Valuation Methodology: Price/BVPS Based Relative Valuation (Illustrative)

Technical Overview:

Technical Commentary:

On the daily chart, WBC prices are sustaining above the rising trendline support level. Moreover, the momentum oscillator RSI (14-period) is showing a reading of ~44.5985 level. However, the prices are trading below the trend-following indicators 21-period SMA, which may act as a resistance zone. An important support level for the stock is placed at NZD 21.0 while the key resistance level is placed at NZD 26.0

Source: REFINITIV

Stock Recommendation

The stock has been valued using Price/BVPS multiple-based illustrative relative valuation, and the target price so arrived reflects a rise of low double-digit (in % terms).

Considering the facts above, a ‘Buy’ recommendation on the stock has been provided at the closing market price of NZD 23.200 per share, down by 1.49% as on 17 August 2023.

Markets are trading in a highly volatile zone currently due to certain macro-economic issues and geopolitical tensions prevailing. Therefore, it is prudent to follow a cautious approach while investing.

Note 1: Past performance is not a reliable indicator of future performance.

Note 2: The reference date for all price data, currency, technical indicators, support, and resistance levels is August 17, 2022. The reference data in this report has been partly sourced from REFINITIV.

Note 3: Investment decisions should be made depending on an individual's appetite for upside potential, risks, holding duration, and any previous holdings. An 'Exit' from the stock can be considered if the Target Price mentioned as per the Valuation and or the technical levels provided has been achieved and is subject to the factors discussed above.

Note 4:  Annual Dividend Yield is on a Trailing Twelve Month (TTM¹) basis and are subject to change based on factors such as company performance, stock price changes, etc.

Technical Indicators Defined: -

Support: A level at which the stock prices tend to find support if they are falling, and a downtrend may take a pause backed by demand or buying interest. Support 1 refers to the nearby support level for the stock and if the price breaches the level, then Support 2 may act as the crucial support level for the stock.

Resistance: A level at which the stock prices tend to find resistance when they are rising, and an uptrend may take a pause due to profit booking or selling interest. Resistance 1 refers to the nearby resistance level for the stock and if the price surpasses the level, then Resistance 2 may act as the crucial resistance level for the stock.

Stop-loss: It is a level to protect further losses in case of unfavourable movement in the stock prices.

Disclaimer

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