price direction, page-2

As I said in my last couple of posts, sooner or later AFG's share price is going to going to start tracking its actual and forecast earnings, instead of tracking non-specific US sub-prime sentiment.

While plenty of people have criticized the price of the Rubicon deal, and plenty of people have drawn attention to a couple of AFG's under performing trusts, no one has argued that AFG's overall earnings are under any serious threat.

While FY08 may not be a 'stellar year' for AFG, it is not going to be that bad either, with most analysts still forecasting normalized EPS growth in the region of 10-20% . But if you look at the share price (even after Friday's rise), it would seem that the market is factoring in massive US-style write downs and losses. Since material AFG write-downs and losses are pure fiction, a case of naive investors/traders making a false association between AFG and US banks, one could argue that AFG's recent bout of selling was irrational.

As predicted in earlier posts, Coe and Fell's wise decision to lower the price of Rubicon by 12% should see the stock find support north of $8 this week (US markets permitting).

But if AFG was to trade on fundamentals again, then I think it would find pretty firm support at around $12 (= PE of around 15 based on FY08 consensus earnings).

Generally speaking, I think value investors are starting to see AFG sub $8 as major (and rare) buying opportunity. Having said this, however, I also think AFG will remain subject to further wild US sub-prime swings until the Dec half results are released next year. At that point in time the global sub-prime situation should have stabilized (i.e., people will have a clearer picture as to who, precisely is carrying the losses), and the Australian market will have some hard AFG numbers and an outlook statement upon which to clearly value AFG. If AFG's earnings numbers and outlook statement are reasonably positive (even if cautious), and assuming there is no wider marco economic disaster, then I think the stock will be re-rated to around the $12 mark during April/May 08. $12 implies a PE of around 15 based on FY08 consensus earnings. $12 is also where AFG would likely be trading right now if Rubicon price issues and negative sub-prime sentiment hadn't arisen.

Looking ahead 12 months, and assuming current FY09 forecasts are realistic, I think AFG stands a pretty good chance of seeing $14. So, for those prepared to hold for 12 months, and assuming AFG is able to carry on 'business as usual' through 08, there is a high probability of a near 100% return from current levels. At the very least, upside risk outweighs downside risk at current prices.