Australia Shares End Up 1.1%; Resources Lead Recovery

The resources sector led a broad-based recovery in the Australian share market Tuesday after China's Shanghai Composite continued to recover and Wall Street edged higher in spite of falls on European markets. Takeover activity helped the market, although some strategists warned of a challenging year ahead.

The benchmark S&P/ASX 200 index closed up 1.1% at 4152.2 on light trading volumes after hitting a three-day high of 4154.3. It was the first advance in the index in the past four sessions.

BHP Billiton, Rio Tinto, Newcrest Mining, Fortescue Metals and Woodside Petroleum rose 1.3%-2.5% as China's Shanghai Composite climbed 1.6%, adding to a 2.9% rise on Monday. Pacific Brands surged after a takeover approach from KKR, and Alumina Ltd. jumped after Alcoa predicted higher alumina prices.

"I think takeover activity is going to be the interesting thing domestically," said Macquarie Private Wealth investment adviser John Milroy. "From our perspective, top-line growth will be difficult so you will see cashed-up companies looking for bolt-on acquisitions."

Pacific Brands shares rose 8 cents, or 14.3%, to 64 cents, valuing the company at A$584 million.

"It highlights the extent to which private equity is back in the M&A space and the opportunities in beaten-up retail sector," said Commonwealth Bank of Australia Institutional Equities head of sales trading Justin Rooney.

CBA values Pacific Brands at 84 cents a share and says a "reasonable" PE multiple of 6-7 times earnings before interest, tax, depreciation and amortization would imply a takeover price between 72 cents and 88 cents a share.

Cape Lambert rose 8.3% after Dow Jones Newswires reported that South Africa's Exxaro is in advanced talks to buy African Iron, which is part owned by Cape Lambert.

Among stocks listed by Citigroup as its "top M&A ideas for 2012", Santos rose 3.1%, IAG rose 2.1%, Echo Entertainment rose 2%, Atlas Iron rose 4.6% and Paladin rose 1.8%.

Alumina Ltd. surged 6.4% to A$1.17 as investors piled in near multi-year lows after Alcoa World Alumina and Chemicals joint venture partner Alcoa predicted global aluminum demand will grow 7% in fiscal 2012 amid a global deficit in primary aluminum supply.

Macquarie Equities reiterated its outperform rating and A$2.10 price target, arguing that the current share price presents an opportunity to those with a similar view to its own bullish view on current aluminum market pricing.

However, Macquarie's Milroy expects challenges in the upcoming Australian earnings period.

"Our expectation is for more trimming of earnings estimates from some of the industrials particularly as they seem too high from a bottom-up perspective," he said.

Credit Suisse strategists took a bearish view on the Australian share market, saying the S&P/ASX 200 index could "undershoot fair value" by falling as low as 3500 points in coming months.

The broker said global equities could weaken further in 2012, because U.S. equities are expensive and despite low global interest rates, the global yield curve is inverted, pointing to negative growth in 2012. "Should this forecast materialize, U.S. earnings could be downgraded, and equities globally could sell off," they said.