Big bucks

A major research paper from international investment bankers Salomon Smith Barney (SSB) says investing in oligopolies can be good for returns.

An oligopoly exists if one large company, or a few companies, dominate the market. SSB isolated these companies in the Asia-Pacific region, grouping them in a portfolio which was then compared with a portfolio of companies in ``excessively competitive" sectors.

The report, from SSB's Hong Kong-based Asia-Pacific equity strategy team, says oligopoly power has increased in most markets in the region since the Asian economic crisis. The exceptions are Hong Kong and Taiwan.

``It is no surprise that Hong Kong and Taiwan have been the worst performers in the region this year," the report says. ``In Asia-Pacific excluding Japan, oligopolies have outperformed excessively competitive stocks for most of the past 12 years."

Some ``excessively competitive" sectors include Taiwan's technology and consumer durables, Malaysia's real estate and Singapore's capital goods.

About Australia, the report says: ``Aggressive consolidation driven by such factors as a limited population base has seen oligopolistic structures become a common feature.

``Notable examples include banks, media, transport, retailing, telecommunications and beverages."

Shares singled out as having oligopolistic advantages here are Qantas, News Corp, BHP Billiton, the big four banks Westpac, Commonwealth, ANZ and National Boral, Brambles and Wesfarmers.

SSB believes Qantas has an advantage because it is the only major player in the Australian aviation industry after the demise of Ansett. Even when Ansett was flying, the two airlines operated in an oligopoly.

The report says Australia's four major banks have a premium track record on return on equity and earnings growth but the telecommunications industry, although dominated by Telstra, has not yet ``reached the point at which premium returns can be maintained".

The banks represent about 75 per cent of the banking market and price competition is a ``zero sum game".

``The lack of credit-quality data is a discouraging barrier to entry and the big four represent around 90 per cent of the small- to medium-enterprise (SME) market," it says. ``We believe the sector is a stand-out example of rational behaviour among incumbents, and the resulting beneficial impact on returns."

SSB does not expect this picture to change soon.

Macquarie Equities' head of research, David Rickards, says the Government's ``four pillars" policy, which prevents a takeover of any of the four major banks, is likely to remain because there is little competition among lenders in the provision of services to SMEs.

``Credit card fees, SMEs and corporate banking are where banks derive their profits," Rickards says.

On Qantas, Rickards says competition is at the margin and there are huge barriers to new entrants into the industry: ``Airlines are very capital intensive. Qantas also has to manage its intellectual capital pilots who may demand higher wages because they know Qantas is the only service provider and a strike would be a much bigger issue for the public than if there were two airlines."

SSB's director of quantitative research, Graham Harman, says Qantas's position of dominance may have been quickly priced into its shares.

He says that an oligopoly that is a ``permanent feature of the landscape" is likely to be fully priced.

``If you can spot a change in an oligopolistic environment, then it might be a stronger buy," he says.

So if there are three major banks and one is about to exit the sector, buy the shares before the change is factored in. Or, if there are two major airlines and one is about to cease operations, the remaining airline might experience a short fillip in its share price.

Commsec industry analyst Graeme Woodbridge says the Qantas share price jumped about 70c, from $2.70 to $3.40, when Ansett announced its demise in September 2001. But within days, another factor was weighing heavily on aviation company share prices globally.

``The September 11 terrorist attacks in the US were a major issue for Qantas," Woodbridge says. ``The Qantas share price might have gone up more had September 11 not happened."

He says that since September last year Qantas's share price has drifted back down to $3.85. He says Qantas may have a position of dominance in the local market but global factors affect the company's shares.

``Qantas is very sensitive to changes in oil prices because aviation fuel is a huge input cost," he says. ``The events of September 11 were completely outside the Australian market and the company's control. Qantas also has to deal with the regulator here.

``After Ansett collapsed, the Australian Competition and Consumer Commission kept a close eye on what Qantas was charging for seats. That's another factor that would limit any gains."