Stock takes: International markets into bear run

The old adage of "sell in May and go away" seems to be holding true for another year with international markets now well into a bear run.

Although prospects of a bounce in global equity markets later this year are bright, there's little reason to be bullish on Kiwi stocks, unfortunately.

The NZSX-50 has continued May's 4.5 per cent drop with a 1.2 per cent fall so far this month, dragged down by the plunge in international share indices.

First NZ Capital research director Barry Lindsay says what's unusual about the latest fall in global equities is that they still look relatively cheap - trading on a forward price-to-earnings ratio of about 13.5 times, their lowest p/e ratio since 1990. Based on this, world markets should recover.

But don't make any assumptions about global markets pulling the NZSX-50 higher. The Kiwi market isn't so bright: It is trading on a forward p/e of around 14.5 times and looks expensive. "That suggests that our market will struggle to perform because it's not obviously cheap," says Lindsay.

Tyndall Investment Management's Rickey Ward says the market may fall further. "It feels like it still has a weak undertone to it.

"It just has a feeling that maybe this market has seen its highs in recent times and you can't help but feel that maybe there's some downside to come as people take profits and have a little bit of a breather."

Tindall's call

One of the few things underpinning the local market has been takeover action.

While that's not a viable long-term antidote to market weakness, it is odds on to generate some more activity in the second half of the year - particularly if it involves The Warehouse.

There could be a few regrets if a takeover bid doesn't emerge for the Red Sheds in the next few months. Investors largely spurned Foodstuffs' $5-a-share offer for a 10 per cent stake in the company, expecting the bid would flush out a takeover offer from an overseas retailer.

But as time goes by and no bid emerges, The Warehouse is likely to drift back towards the $3.81 it was trading at before the Foodstuffs bid.

Broking houses value the stock at $3.80 to $4.25 and there's been nothing over the past couple of weeks to change the retailer's fundamentals.

What it comes down to is whether investors take Stephen Tindall at his word that he doesn't intend to sell his 51 per cent controlling stake.

As no takeover will succeed without Tindall's co-operation, anyone who's serious about taking the company out would have lined him up beforehand, which suggests Foodstuffs only ever wanted a blocking stake.

The Warehouse shares closed at $4.85 yesterday.

Hyper-hype

It failed to get to 10 per cent but even the small shareholding that Foodstuffs did get was likely to distract The Warehouse board and management's focus on the entry into the grocery market, said Goldman Sachs JBWere retail analyst Terry Tolich.

This is likely to be backed up by a PR campaign from Foodstuffs "undermining the market's perceptions" of The Warehouse's hypermarket initiative and place additional pressure on its management to discontinue the strategy, Tolich says in a prescient note last week.

Sounds a bit far-fetched perhaps, but Foodstuffs chief Tony Carter's comments this week did little to dispel the theory.

Carter said "the jury is out" on the hypermarket strategy and noted the concept hadn't taken off in Australia or Britain.

Carpet bagging

Despite last week's solid forecast, Feltex remains a bit of a punt, analysts say.

ASB Securities adviser Stephen Wright says the carpet-maker will have to produce two or three solid results to confirm its recovery really is on track. Till then "it's one for the more speculative investor".

First NZ Capital's Andrew Mortimer concludes much the same thing.

While the guidance provided some encouraging news from the fourth quarter, underlying operating earnings "are lower than our previous estimates".

He says capital restructuring remains the key issue in the near term..

Despite that word of warning, First NZ has upgraded its discounted cashflow valuation on Feltex from 49c to 57c and moved it from underperform to neutral. It retains a 12-month target price of 39c.

Feltex shares closed down 1c at 36c yesterday.

Cavalier attitude

It is reasonable to assume that Feltex rival Cavalier will get similar gains to those outlined by Feltex last week. That is to say improved earnings on the basis of the lower dollar and slightly stronger Australian market.

First NZ accentuated the positive by yesterday rating Cavalier "outperform".

But Goldman Sachs JBWere analyst Rodney Deacon adds a note of caution.

More important for Cavalier are its Kiwi operations - where it derives 60 per cent of revenue, he says.

The local market remains soft due to a slowdown in residential building and there is still no clear indication of when it will bottom out.

Feltex indicated that sales in its premium range had been difficult but the medium range was holding up.

"In contrast, we understand that Cavalier has seen some softness across the range of its woollen carpets," Deacon writes.

Soft carpets might sound like a good thing, soft sales are not.

With that in mind, Deacon concludes the risks to Cavalier's earnings estimates remain on the downside. He retains a underperform/hold recommendation and a valuation of $3.19.

The shares closed up 8c at $3.24.

Cup runneth over

Wine exporter Delegat's has had a superb run on the market since listing in April at $1.40. It hit $2 last week and has been bouncing off that level for the past few days. The shares closed at $1.95 last night.

Like hot tech stock Rakon, initial demand was probably driven by the limited number of shares on offer. But the stock has continued to climb steadily, perhaps aided by the likes of ABN Amro initiating coverage at the start of the month.

ABN rated the stock a "buy" and gave it a 12-month target of $1.99. That would suggest the share price is now in danger of running ahead of underlying business performance.

But ABN analyst David Oxley notes the target price is based on exchange-rate projections contained in the prospectus, so there is scope to add significantly to the valuation if the dollar continues to decline.

"There appears to be considerable theoretical upside in the share price, assuming the company achieves projected revenues," he says.

The Australian wine glut and the general oversupply worldwide are not huge risks to Delegat's because it has carved a valuable niche at the premium branded end of the wine market.

Of course, the stock is vulnerable to the vagaries of the horticultural sector - basically the weather.

The company's maiden set of results - for the year to June - is due towards the end of August. They will provide the first clear indication of how the group is progressing towards its earnings targets.

Rakon sheds some weight

The Rakon story has been a fantastic reminder for media-shy corporates that there is (almost) no such thing as bad publicity.

When questions were raised about the extent of Rakon's involvement with the US military, the shares went through the roof.

Yesterday, the Government confirmed it was happy that Rakon was not designing products specifically for military use - and the shares fell 1c.

To be fair, they were already following the global markets down this week.

Since hitting an all time high of $3.18 on Monday, the shares have shed more than 10 per cent. They closed at $2.84 last night.