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Trader Talk is produced by a team of active traders, analysts and various derivatives professionals from multiple organisations. Trader Talk provides comment on equities, commodities, and other financial instruments based on both technical and fundamental analysis.
Get plumbed in to Wolseley
It has been another mixed week for equities as investors largely shrugged off ongoing tensions in the Eurozone and focused on the possibility of fresh stimulus measures from the US Federal Reserve, which failed to deliver.
Early sentiment was bearish, as the markets were unimpressed by the lack of developments from the latest meeting of European finance ministers in Poland last weekend, heightening fear over the prospects for Greece.
The International Monetary Fund issued a report warning that Europe and the US could slip back into recession next year, unless they quickly tackle the economic problems that could affect the rest of the world. The IMF cut its forecast for global growth to 4% for this year and next, shaving projections for almost every region of the world, stating risks remained skewed to the downside.
Ratings agency Standard & Poor’s cut Italy’s credit rating to single A from single A+ and maintained its negative outlook, a move that would normally send equity markets lower. The negative sentiment was however short-lived, as investors attempted to price in the positive effects of a possible announcement from the Fed.
The US central bank concluded its highly anticipated two-day policy meeting on Wednesday and as expected announced it would extend the average maturity of its balance sheet in a move hailed as “Operation Twist”. The process involves selling $400 billion of treasury bonds with maturities of less than three years and buying an equal amount of government securities in a six to 30 year range. The move is intended not only to boost the economy in the near-term, but to also keep long-term interest rates low, boosting the housing sector.
Investors were however spooked by the downbeat assessment of the economy, stating it faced “significant downside risks”, sending global equity markets sharply lower. Stateside, financials suffered after Moody’s cut the debt ratings of several major American banks, saying the US government is getting less comfortable with bailing out large troubled lenders.
Minutes from the Bank of England’s September policy meeting were also released on Wednesday, revealing most policymakers believed the deteriorating economy had strengthened the case for an urgent return of quantitative easing, potentially as soon as October.
Technical analysis highlights the continued volatility with the FTSE 100 gaining over 300 points last week before returning to the lower band of the recent trading range within the past two sessions. Support is seen at 4990 and Augusts’ intraday low at 4800, with a close above 5420 still required to denote the presence of a new uptrend.
In conclusion, a lack of decisive action to tackle a deteriorating economy is destroying confidence, which is taking its toll on the both the economy and the financial system. Future direction now much depends on whether European officials can act swiftly to secure the region and reinstate some confidence amongst investors. Recent comments and an increased sense of urgency among policymakers suggest that failure is not an option and an announcement is getting closer.
Sentiment is lower than at any point since the Lehman Brothers collapse in 2008, providing encouragement for the contrarian investor and with the FTSE back at the lower end of its recent range, I have been focusing on sectors that perform well in the early stages of an economic recovery.
Construction companies are historically one of the fastest sectors to recover and given the severe fall in housing related stocks, combined with recent government initiatives to bolster growth in new homes, it has resulted in some attractive valuations.
Wolseley (LON:WOS) is the largest specialist trade distributer of plumbing and heating products to professional contractors and a leading supplier of building materials to the professional market.
The group’s main brands in the UK include Plumb Center, Pipe Center and Bathstore, which represent around 20% of sales and profits. The majority of the company’s business is generated in the US, representing 40% of sales and 60% of profits.
Interim results on 1st June 2011 showed 3rd quarter trading profit had increased 30% to £131 million, in the three months to April 30th 2011, comfortably ahead of expectations. Revenue growth continues to be strongest in the US, with positive momentum in the Nordics and France offset by weaker trends in the UK and Canada.
Net debt was reduced by £109 million to £824 million in the quarter and the proceeds from more recent sales of Electric Center, Build Center and Brossette will be used to pay down debt. Analysts expect that by full year 2012 adjusted net debt will be just £107 million with no earnings per share dilution, putting the balance sheet on a significantly stronger footing.
Recent share price weakness puts the company on 11x earnings and with over 20% growth forecasts next year, it gives them an attractive PEG of 0.54. The 4% dividend yield is also covered three times by earnings, providing scope for potential hikes going forward.
The above chart of Wolseley shows the shares fell over 30% since earlier this year, over double what the FTSE 100 has lost during the same period. Since trading a low of 1385p in August, the shares have settled higher with positive momentum shown on the RSI.
Although the macro economic backdrop is mixed, construction will be among the first sectors to recover and Wolseley offers a compelling growth story from these levels.
At the time of writing the share price is 1437p and near term targets are seen at 1508p, 1564p and 1630p. A tight stop-loss marginally below the recent low at 1368p also creates an attractive risk / reward bias.
This report was written by Mark Allen – Head of derivatives at Simple Investments Stockbrokers. The writer does not hold a position in Wolseley, but client accounts may. The material in this report has come from Simply Charts and Wolseley’s corporate website.
