17 Apr 2019
Irish Economy: Government pares its growth forecasts
The Irish government released the draft Stability Programme Update 2019. The report details Ireland’s national medium-term fiscal plan and includes an update of the Department of Finance’s economic and fiscal projections.
As the opening paragraph of the report says, “the Irish economy is in an unusual position at present, juxta-positioned between possible domestic overheating and capacity constraints on the one hand, and a slowdown in key export markets on the other”. The economy recorded headline GDP growth of 6.7% last year, helping to restore the public finances to surplus and lift total employment to a new post-independence high.
A more uncertain external environment (most notably due to the Brexit process) weighs on the near-term outlook. The Department of Finance now sees GDP increasing by 3.9% this year and by 3.3% in 2020. These represent downgrades of 30bps for each year relative to the projections set out in October’s Budget and are the latest in a series of downward revisions to forecasts (in recent weeks the Central Bank and ourselves – Investec sees growth of 4.3% and 3.3% in 2019 and 2020 respectively – have made similar adjustments) for the Irish economy.
The Department has, however, raised its expectations for the public finances. Due to the strong corporation tax performance in Q418 it now sees a general government surplus equivalent to 0.2% of GDP this year, improving to a 0.4% surplus in 2020. These compare to Budget Day forecasts of 0.0% and 0.3% respectively.
Modified domestic demand, or domestic demand excluding the multinational dominated areas of investment spending, is expected to advance by an impressive 4.0% this year, down from the +4.5% recorded in 2018. This gives a better indication of the moderation of the rate of increase in output than the projected rate of increase in headline GDP (which is half the level recorded in 2018). Of course, if the Brexit process becomes a disorderly one then we won’t have seen the last of the downgrades for the economy.
Irish Banks: CBI hints at SyRB usage
The Governor of the Central Bank of Ireland, Philip Lane, yesterday said that he had requested the power to activate the Systemic Risk Buffer (SyRB) from the Irish Minister for Finance. The SyRB is aimed at addressing systemic risks of a long-term, non-cyclical nature, with the powers to activate it sitting at a government level. Governor Lane, who is the incoming Chief Economist at the ECB, said that he had requested the powers to activate the SyRB so that the CBI could ensure that the banking system could be resilient in the event of a structural shock to the Irish economy, but that any decision to actually implement the SyRB would be based on a thorough evidence-based assessment of its benefits and costs.
As the SyRB comes with no minimum or maximum limit, and as it may vary across institutions, it is difficult to say what impact the SyRB may have on the Irish banking sector, particularly as it may be combined (offset) with OSII buffers already in place for systemically important institutions (AIBG and BIRG). As such, the biggest potential impact may be on Permanent TSB Group as they are no longer subject to the OSII buffer requirement and may be more fully exposed to any SyRB activation, although any suggestion of increased capital requirements is also likely to hurt the developing AIBG capital distribution narrative which we have recently written on.
Overall, it suggests some upside risk to our 13% min FLCET1 assumption that we have on all three Irish banks, would have a moderate but negative valuation impact on our models (+1% CET1 assumption = -4% PTSB, -1.5% AIBG, -0.5% BIRG).
Irish REITs: Read-through from today’s Irish Times
Today’s Irish Times’ property supplement contains two articles of note to the Irish REITs.
A build-to-rent development of 295 apartments has been brought to market at Clay Farm in Leopardstown (South Dublin). The wider Clay Farm development will, on completion, comprise c. 1,500 homes and 33 acres of open space including parks and playgrounds. The location is well served by public transport and close to the major employment hub of Sandyford. The guide price is €130m, which should equate to a gross rental yield of at least 5.5%. We would expect to see strong interest in these units, which should serve as a reminder of the attractiveness of IRES and HBRN’s PRS assets.
Separately, the former DIT Kevin Street campus in Dublin’s south CBD has been acquired by a consortium formed of York Capital and Westridge for €140m. The 3.57 acre site is likely to be repurposed for PRS and Grade A office use (the site is capable of accommodating more than 550,000 sq ft of space), along with some ancillary retail space. HBRN will doubtless track progress at this site, which sits 750m from its Harcourt Square redevelopment asset, where the current Dublin metropolitan police headquarters appears set to be replaced by a new 315,000 sq ft Grade A office building after the Garda (Irish police) lease expires at the end of 2022.
These transactions serve as a reminder of the continued strong institutional appetite for scale opportunities in the Dublin market.
Tesco Continuing to make progress
While c.2.5% LFL top line growth may not look attractive, management continues to improve business efficiency - our forecast 3-year adj. EPS CAGR is over 10%. While we tick back our FY19E adj. EPS forecast by 1.1% to 16.9p, we are raising our EBITDA and operating profit forecasts 2.7% and 4.3% to £3.83bn and £2.46bn, respectively. Our revenue forecast remains relatively unchanged (+0.1%) but we have ticked up our forecast EBITDA margin by 15bps to 3.8%. The earnings dip is driven by an increase in the estimated “taxation attributable to the owners” adjustment to reported earnings, not by any operational weakness.
Total indebtedness remained flat in FY19A at £12.20bn with TI/EBITDAR at 3.0x. However, this reflected a £715m spent on acquisitions (debt element of the Booker deal) and an additional £266m contribution to the pension schemes, in the fiscal year. With Booker integrated and contributing to cash flow and the pension deficit being actively managed, we forecast solid free cash flow generation in the coming three years, driving a material reduction in total indebtedness to £8.94bn by FY22E, further acquisitions notwithstanding. Tesco is currently trading at 15.0x CY19E P/E and 6.9x EV/EBITDA, an 8.0% discount to its peers. Ian Hunter (+353 1 4210466)
China economic data
GDP figures released overnight showed that in year-over-year terms Chinese GDP growth stood at 6.4%, above the 6.3% market consensus. On a quarterly basis, GDP rose by 1.4%, matching consensus expectations. Importantly the monthly figures also showed the economy gaining momentum at the end of the first quarter while industrial production for March stood at 8.5% yoy, a chunky beat on the 5.9% consensus and above the 5.3% yoy rise for the year to date. Retail sales for March were 8.7% up on last year’s levels, against a consensus of 8.4%. Overall, the data provide some reassurance that the supportive economic steps being taken by the Chinese authorities, to shore up growth momentum, are starting to have the desired effect. The Shanghai Composite index is 0.5% higher so far this morning.
UK labour conditions remain tight
Yesterday morning’s UK labour market release offered up nothing in the way of surprises but rather served to reaffirm that conditions remain tight. It consequently failed to rouse investors from their pre-Easter slumber, with sterling and gilts proving indifferent to the report.
Figures showed the unemployment rate had held steady at its post-1975 low of 3.9% in the three months to February, in line with Investec and consensus expectations. This was accompanied by a robust 179k rise in employment over the quarter, itself underpinned by a 138k rise in the number of full-time workers, pushing the employment rate up to a record high of 76.1%. Amid such elevated levels of labour scarcity, pay packets continued to be bid up at paces not seen since before the 2008 financial crisis. Average weekly earnings rose by 3.5% (yoy) in the three months to February, matching expectations for no change on January’s reading. Stripping out bonuses, the ‘regular’ earnings measure similarly failed to surprise, having eased to 3.4% from the previous month’s revised 3.5% outturn. When deflated using CPI inflation, both pay metrics firmed to the highest since November 2016, thereby showing a better picture for household budgets.
Taken as a whole, the report does not suggest there has been a slowing in labour market dynamics at the beginning of 2019. Indeed, our expectation is that the joblessness rate will fall further over the coming months, in-turn pushing earnings growth higher-still as qualified labour becomes scarcer. Certainly, while the ‘Brextension’ to 31 October provides reassurance that a disorderly no-deal is unlikely over the immediate horizon, the persistent lack of clarity may also mean that firms keep capital investment plans on ice and instead leave them dependent on the jobs market to fulfil any increase in capacity.
Brent at 72 $/b - US Shale Growth Continues to Slow
The US drilling productivity released this week showed an increase in US shale production of 80,000 barrels/day in the key regions. This compares to the average of last year of 156,000 barrels/day. If the latest rate of monthly increase is maintained, total shale production growth in 2019 would be around 1m barrels/day, whereas the International Energy Agency is forecasting growth in US production of around 1.5m barrels/day. Brent crude traded $72/barrel overnight as oil prices continue to track equities.
09.00 IT Italian CPI
09.30 UK Retail Sales + CPI + PPI
10.00 EU EU Trade Balance and CPI
13.30 US Trade Balance
14.00 UK BoE’s Carney Speaks
15.30 EU ECB’s Lautenschlaeger Speaks