Sell-side broker Morgans has updated its “conviction buy” list for clients to act on and cautioned that valuations seem relatively high “as current earnings growth sits well below the long term average (approximately 9%-10%), reflecting below trend economic growth”.
It also warned that “the valuations investors are paying for earnings remain elevated by historical standards” which means chasing expensive growth stocks may prove a recipe for poor returns.
It did reveal 7 stocks it still considers to be good value though, so let’s take a look at the broker’s high conviction list.
Oil Search Limited (ASX: OSH) is the PNG-based LNG exporter that Morgans continues to favour due to its potential to expand its LNG production operations. Oil Search is widely regarded as owning some of the southern hemisphere’s best LNG assets and as such is a favourite of retail and institutional investors. The stock is down 9% over the last 5 years though which reflects how its performance is closely tied to global energy prices no matter how lucrative its PNG-based LNG assets. As such I’m not a buyer of Oil Search shares.
ResMed Inc. (CHESS) (ASX: RMD) is the sleep treatment and home health specialist Morgans likes due to its solid sales growth, potential to grow margins, and leverage to a stronger U.S. dollar. I agree with Morgans and would add that ResMed also possesses a founder-led and stable management team that’s focused on the long-term growth of the business. Rising margins and growing sales could see the stock kick on to new record highs in 2018.
Link Administration Holdings Ltd (ASX: LNK) is the superannuation fund administrator liked by Morgans due to its high levels of recurring revenue and reasonable valuation, among other reasons. The stock IPO’d at $6.37 in October 2015 and has climbed to $8.59 today. It’s trading on 19x Morgans’ forecasts for FY19 earnings per share.
BHP Billiton Limited (ASX: BHP) may already be in many investors’ portfolios and the broker thinks its’a buy primarily on valuation and outlook grounds. Morgans also flagged the potential for higher cash returns to investors as the miner continues to deleverage its balance sheet as cash flows grow thanks to the rising commodity price environment. There’s no doubt BHP should benefit from higher inflation and all the talk of ‘synchronised global growth’, but is the stronger outlook already built into the share price? Today’s buyers may do well over the short term, but are a little late to the party.
Senex Energy Ltd (ASX: SXY) is the Cooper Basin-based oil & gas producer liked by Morgans due to its “leverage to rising oil prices” and greater demand for east coast gas. I’m not betting on oil prices rising over the medium or long term and as such I’m not a buyer of Senex shares. The stock does look cheap on conventional valuation metrics though and may attract anyone bullish on oil prices.
PWR Holdings Ltd (ASX: PWH) is a widely-fancied small cap business that designs engine cooling parts for high-performance motor cars. Morgans likes its growth potential out to 2020 and potential to expand into more general automotive markets. The stock has traded flat over the past year as the business struggles to live up to the great expectations of analysts.
Westpac Banking Corp’s (ASX: WBC) appearance on the list is likely to please many retail investors wondering what to buy and Morgans thinks you should buy it due to the good risk-adjusted returns on offer alongside its potential to benefit from the re-pricing of investor home loans. Westpac like its big bank peers remains primarily a yield play that is likely to be popular with retail investors seeking income in retirement.
Of the above I would prefer the long-term outlook of ResMed as its management team appear to have a good handle on how to grow a digitally-connected healthcare leader leveraging the potential of software and the cloud to improve overall patient outcomes.
Its management team also invest heavily in developing its market-leading products in order to protect its competitive position and earnings moat. It ticks all the boxes right now except possibly valuation, as such I’d look to buy shares a little cheaper on any general market weakness. In the interests of disclosure I do own ResMed shares and a couple of those recommended below by The Motley Fool.
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The Motley Fool Australia has recommended ResMed Inc. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.