The Treasury of the Australian federal government is best known in these parts for the actions of the man leading the department in late 2013, when the Honorable Joe Hockey, Member of Parliament, announced that the Foreign Investment Review Board, which he heads owing to his cabinet position, would not approve the takeover of GrainCorp Ltd (ASX: GNC, OTC: GRCLF), Australia’s largest grain handler, by US-based global agribusiness giant Archer Daniels Midland Co (NYSE: ADM).

As we note in this month’s Portfolio Update, the door to Australia is not entirely closed to ADM, which may in fact establish deeper, more formalized ties with GrainCorp after all.

And there’s more relatively good news out of Australia’s Treasury this month in the form of its global growth forecasts associated with the preparation of the fiscal 2015 federal budget.

In Statement 2 from Budget Strategy and Outlook Budget Paper No. 1 2014‑15, focusing on Economic Outlook, the Treasury forecasts that Australia will benefit from relatively benign global economic conditions as it undertakes its effort to return to budget balance over the next several years.

Growth for the country’s major trading partners will accelerate to 4.5 percent over the forecast period, ahead of the trend rate of around 4 percent.

As for the global economy, Treasury is predicting that growth will pick up from the anemic 3 percent rate it recorded in 2013–its slowest pace since the financial crisis–to 3.5 percent in 2014 and 3.75 percent in both 2015 and 2016, largely reflecting stronger activity in the advanced economies.

Treasury has brushed aside the weak US economic figures for early 2014, which it says largely reflects the impact of an unusually severe winter and a build-up of stocks late last year. It predicts the US should enjoy above-trend growth of 2.75 percent this year.

According to Australia’s Treasury, the US economic recovery has so far been underpinned by household spending, but it predicts a long-awaited increase in business investment will kick in and provide continuing momentum, while the drag on economic growth from government spending cutbacks are abating.

Even though it expects the Federal Reserve to keep “tapering”–reducing its bond buying program–the Australian Treasury doesn’t expect to see a rise in official US interest rates before 2015.

Importantly, Treasury expects that growth in China–Australia’s largest trading partner–will remain “solid.” It predicts that China’s economy will expand by 7.25 percent in 2013–slightly below Beijing’s official forecast of 7.5 percent growth–and by 7 percent in 2016 “as the economy adjusts to the inevitable slowdown from the very high rates of credit growth in recent years, and becomes less dependent on investment and more on consumption.”

The Australian Treasury acknowledges there are risks clouding the outlooks for both China and the US: “There are downside risks around managing both the economy’s financial sector–including shadow banking activities and high rates of leverage in some sectors–and the reform initiatives to help rebalance the economy and move up the production chain.”

As for the US, it notes there is a risk that the run of weak data in the past few months “could reflect more than just temporary or weather-related factors.”

At the same time, the Australian Treasury notes there’s a risk the US could enjoy a stronger-than-expected rebound in economic activity, as some of the brakes on economic activity are lifted.

It also notes there is a risk that global financial markets could encounter periods of turbulence as the US central bank winds back its massive bond buying program: “The process of normalizing US monetary policy may cause financial market volatility and may trigger a re­assessment of some emerging market economies with pre-existing domestic vulnerabilities.”

And it highlights the growing risk of “geopolitical tensions,” which could affect vulnerable emerging markets.

The outlook for the Japanese economy is also lackluster: The Japanese economy will grow by 1.5 percent in 2014, followed by 1 percent growth in both 2015 and 2016. The Australian Treasury warns that Japanese growth is likely to remain subdued until the Japanese government introduces its “third arrow” of structural reforms to boost productivity and the Bank of Japan is able to kindle inflation.

Australia has experienced unprecedented growth in gross domestic product (GDP) since December 1991. It avoided recession during both the 1998 Asian Financial Crisis and the Global Financial Crisis in 2008. Compared to most developed economies that have suffered increases in unemployment and long-term unemployment since then, Australia has kept on working.

Australia did introduce a series of stimulus measures in 2008-09 to tackle the crisis that moved the economy from a budget surplus to budget deficits.

But Australia remains among the very few countries with triple-A marks across the major credit-rating agencies.

As the commodity boom has come to an end, the Australian economy has slowed down but has not gone into a recession. It is certainly not in crisis.

On important macroeconomic indicators, including GDP, unemployment, inflation, current account balances and debt, Australia compares very favorably to other Organization of Economic Cooperation and Development. Australian GDP has been growing consistently, and the unemployment rate Down Under has been consistently lower than most OECD economies since the Global Financial Crisis.

Australia has the lowest debt among OECD countries. In 2013 Australia’s debt-to-GDP ratio was 34.4 percent. Germany was at 80.9 percent, the UK 111.6 percent, the US 106.5 percent. The OECD average was 112 percent. This is one of the reasons the Australian dollar is likely to remain in a much higher range relative to historic trends versus the US dollar for the foreseeable future.

Some of the OECD countries have been concerned about deflation, but Australia has managed to go through the crisis with negligible inflation. Australia has had current account deficits for more than a hundred years, except for very brief spells of a surplus. But since the Global Financial Crisis only Germany and Italy have had lower current account deficits.

Thanks to several mining booms and strong demand from China, the Australian economy has had continuous growth since December 1991, with GDP growing even through the Global Financial Crisis. The OECD has repeatedly stressed the stellar performance of the Australian economy, noting that “its 21 years of uninterrupted growth, Australia stands out among OECD countries.”

Portfolio Update

A consortium led by AE Portfolio Conservative Holding Transurban Group (ASX: TCL, OTC: TRAUF) has reached agreement to acquire Queensland Motorways for AUD7.057 billion.

Queensland Motorways has a high-quality, established portfolio of assets–with all the characteristics of the toll road operator’s existing networks in Sydney and Melbourne and the attractive demographics of the Queensland market–that fits well with Transurban’s long-term strategy and will help it support and grow distributions over time.

And a competitor has emerged in APA Group’s (ASX: APA, OTC: APAJF) quest to consolidate its ownership of fellow Conservative Holding Envestra Ltd (ASX: ENV, OTC: EVSRF), 17.5 percent Envestra owner Cheung Kong Infrastructure Holdings Ltd (Hong Kong: 1038, OTC: CKISF, ADR: CKISY).

CKI has bid AUD1.32 per share to APA’s AUD1.31. Envestra shareholders are clearly in a good spot. But the game isn’t over, as the natural gas distributor’s free cash flow supports a higher offer from APA.

We have fiscal 2014 first-half earnings from GrainCorp Ltd (ASX: GNC, OTC: GRCLFI), which could yet strike a deal with Archer Daniels Midland Co (NYSE: ADM) and quarterly production reports from Oil Search Ltd (ASX: OSH, OTC: OISHF, ADR: OISHY) and Origin Energy Ltd (ASX: ORG, OTC: OGFGF, ADR: OGFGY), including particularly uplifting news from the former on its PNG LNG project.

There are also notes on charter AE Portfolio Holdings AGL Energy Ltd (ASX: AGK, OTC: AGLNF, ADR: AGLNY) and Telstra Corp Ltd (ASX: TLS, OTC: TTRAF, ADR: TLSYY).

Portfolio Update has the latest on wealth-building moves from our Conservative and Aggressive Holdings as we near the end of fiscal 2014.

In Focus

Australian real estate investment trusts (A-REITs) got crushed in the lead-up to and in the aftermath of the Global Financial Crisis, the S&P/ASX 200 A-REIT Index collapsing by 78.1 percent from its all-time closing high on Feb. 22, 2007, to its crisis-low on March 6, 2009.

Recovery from that low has been driven by portfolio rationalization, cost controls and a trimming of the sails by previously overly ambitions A-REIT executives who now operate much more conservatively.

The A-REIT Index suffered a mini-crash of sorts in 2013, coinciding with the rise in the yield on the 10-year US Treasury note from an all-time low of 1.63 percent on May 2, 2013, to 3.03 percent by Dec. 31, 2013.

REITs around the world benefitted from the rotation of traditional bond investors out of risk-free assets into higher-yielding vehicles during a period of historically low interest rates. The first real indication that this era could end caused an exodus from even these vehicles that are perceived to be among the safest yield plays among equity groups.

But rates have stabilized. In fact the yield on the 10-year US Treasury note, the global benchmark for the risk-free rate of return, hit a new 2014 low this week. And REITs have enjoyed new favor this year.

April saw the completion of one deal involving A-REITs under How They Rate coverage and a bid from another for one that we hold in the AE Portfolio.

There is some speculation that these are the first signs of a new series of merger and acquisitions in the sector. Setting aside such excitement, A-REITs, in the aftermath of a steep slide during the Global Financial Crisis, still offer compelling value and reliable income.

In Focus takes a look at the eight A-REITs currently under How They Rate coverage, including AE Portfolio Conservative Holdings Australand Property Group (ASX: ALZ, OTC: AUAOF) and GPT Group (ASX: GPT, OTC: GPTGF).

Sector Spotlight

Conservative Holding Australia & New Zealand Banking Group Ltd (ASX: ANZ, OTC: ANEWF, ADR: ANZBY) is a charter member of the Australian Edge Portfolio, one of the original “Eight Income Wonders From Down Under” we introduced in our first issue on Sept. 26, 2011.

Through May 15, 2014, ANZ has generated a total return in US dollar terms of 102.4 percent.

In the time since we last profiled Australia’s third-largest bank in terms of market capitalization as a “Sector Spotlight”–thereby recommending it as one of two monthly “best buys” for new money–in the July 2013 issue it’s up 25.69 percent.

ANZ hit an all-time high of AUD34.94 on the Australian Securities Exchange (ASX) on April 28, 2014, but has backed up a bit in the aftermath of management’s report on fiscal 2014 first-half financial and operating results.

The analyst community is concerned about short-term pressure on margins, expense growth and the sustainability of its Asia-focused growth plan.

We’re high on ANZ precisely because of the long-term benefits of its Asia exposure, which is tops among a peer group

We have more on ANZ Bank in this month’s first Sector Spotlight.

A deal for a piece of the massive Leviathan natural gas field offshore Israel is looking increasingly doubtful.

But Woodside Petroleum Ltd (ASX: WPL, OTC: WOPEF, ADR: WOPEY), Australia’s second-largest oil and gas producer next to global resources behemoth and fellow AE Portfolio Aggressive Holding BHP Billiton Ltd (ASX: BHP, NYSE: BHP), continues to expand its assets and opportunities in a manner designed to generate cash flow for shareholders.

Woodside’s growth strategy is underpinned by strong global demand for natural gas and the increasing role of liquefied natural gas (LNG) in the global gas supply mix.

It’s expected that by 2030 global demand for LNG will be more than double the 2013 level of approximately 240 million metric tons per annum, corresponding to an average annual growth rate of 4 percent to 5 percent.

The Asia-Pacific region makes up about 70 percent of global LNG demand, with purchases by traditional buyers, including Japan and South Korea, complemented by significant demand growth across India and Southeast Asia.

In addition to its use in power generation and commercial and residential applications, LNG is increasingly becoming an important transportation fuel.

Australia–and Woodside in particular–is well placed to meet this growing demand.

This month’s second Sector Spotlight focuses on Woodside Petroleum.

News & Notes

Sustained Momentum, Despite More Headwinds: The Australian economy continues to produce promising data, even as new challenges emerge, notes AE Associate Editor Ari Charney.

The Dividend Watch List: The Dividend Watch List includes updates on How They Rate companies that have recently announced profit warnings as well as those that announced reduced dividends during fiscal 2014 first-half earnings reporting season Down Under.

The ADR List: Many Australia-based companies that list on the home Australian Securities Exchange (ASX) are also listed on the New York Stock Exchange (NYSE) or over-the-counter markets as “sponsored” or “unsponsored” American Depositary Receipts (ADR).

Here’s a list of those companies, along with an explanation of what these ADRs represent.

How They Rate

How They Rate includes 113 individual companies and four funds organized according to the following sectors/industries:

• Basic Materials
• Consumer Goods
• Consumer Services
• Financials, including A-REITs
• Health Care
• Industrials
• Oil & Gas
• Technology
• Telecommunications
• Utilities
• Funds

We provide updated commentary with every issue, financial data upon release by the company, and dividend dates of interest on a regular basis. The AE Safety Rating is based on financial criteria that impact the ability to sustain and grow dividends, including the amount of cash payable to shareholders relative to funds set aside to grow the business. We also consider the impact of companies’ debt burdens on their ability to fund dividends. And certain sectors and/or industries are more suited to paying dividends over the long term than others; we acknowledge this in the AE Safety Rating System as well. We update buy-under targets as warranted by operational developments and dividend growth.

In Closing

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David Dittman
Editor, Australian Edge