Back in Business

Chief Investment Officer and founder of Aitken Investment Management
Print This Post A A A

I get very little disagreement from the business sector to my view that Australian business confidence will pick up from this point, but that leads to further questions about how best to get equity market leverage to a sustained rise in business confidence.

Business confidence is crucial to GDP growth because of the GDP multiplier of a corporate dollar spent. When business confidence turns up, you get a concurrent lift in investment spending and corporate discretionary spending. You also get a lift in employment. It is productive cashflow and capital deployment.

The charts below from the Reserve Bank of Australia reminds you that business credit growth has been hovering around 0% for many years despite historically low interest rates and recovering global growth. The chart beside it reminds you interest paid as percentage of profits is well below the average of the last decade.

 I think business credit growth is the first place you will see evidence of the improvement in business confidence. There will be an increase in the demand for credit to finance investment in property, plant and equipment and to finance growth by acquisition.

While the banks are leveraged cyclical activity stocks (GDP +), the next question becomes ‘Where else do we find leverage to a sustained pick up in business confidence?’.

Back to the future

To answer that I am simply going to give you my personal experience of business confidence cycles and what happens.

You start by booking a big boat and filling it up with French champagne… Sorry, was having 2007 flashbacks!!

The big discretionary spending variables in all businesses are travel and entertaining, marketing/advertising and telecommunications/IT.

I think you can look forward to a big uptick in travel and entertaining spending, marketing and advertising spending and an IT upgrade cycle.

All businesses simply loosen the purse strings to some degree when they are more confident.

The theory is, and it is correct, you spend money on your clients when you think you can generate a return on that spending. It’s the classic “return on lunch employed”, or ROLE as we like to call it in this industry.

Similarly, you spend money on promoting your business when you think you can generate a return on that spending via finding new leads/clients.

And businesses have delayed IT upgrades in recent years that would improve productivity and profitability. But again, you only spend on IT upgrades when you think you can generate a return on that investment.

In summary when you are confident you get in front of your clients more, spend more on promoting your business and spend more on IT/telecommunications to facilitate better and more efficient client interaction. You might even buy a new suit and add a few new staff.

I think a genuine business confidence cycle, which in fact is just a normal business confidence cycle in Australia, is long-overdue. It’s even more overdue because we had to experience the longest federal election campaign in history this year and the uncertainty that brings to the business sector.

But now we have certainty. I think we are all going to be surprised how quickly business confidence readings pick up and evidence of increased business spending becomes apparent. That will lead to GDP growth and earnings upgrades.

What to buy

In terms of stocks with direct leverage to the themes above, outside of the banks I would be focused on:

  • Qantas (QAN) and Crown Resorts (CWN) for leverage to increases in business travel/entertainment spending;
  • STW Communications (SGN) for leverage to increases in business advertising/marketing spending;
  • Telstra (TLS) and Technology One (TNE) for leverage to mobile business data spending and IT upgrades;
  • JB Hi Fi (JBH) for SME/smaller business hardware and software upgrades;
  • Boral (BLD) for leverage to non-residential building/infrastructure upgrades;
  • QUBE (QUB) for leverage to goods movement and Moorebank Intermodal project approval; and
  • Caltex (CTX) for leverage to broader transport sector energy demand.

But at the end of the day EVERYTHING cyclical benefits in some way from a pickup in business confidence. The multiplier of cash moving through the economy is large.

What to sell

On that basis if you are looking for something to sell the answer is 10-year Australian government bonds.

In my view Australian GDP growth will recover to 3.5% and inflation will be 2.5%. In old school economic theory that equates to a 6.00% long bond yield. Just about the ONLY place to lose your investment capital over the years ahead in Australia in the economic and activity cycle I believe in for the next few years is in long-term government bonds. Sell long bonds and buy Australian banks, there’s a switch that will continue to reap total return rewards.

Important: This content has been prepared without taking account of the objectives, financial situation or needs of any particular individual. It does not constitute formal advice. Consider the appropriateness of the information in regards to your circumstances.

Also in the Switzer Super Report:

Also from this edition