What’s your take on steel stocks?

The price trend of leading steel stocks would have you believe that the worst is in the offing for the steel industry.

Falling steel stock price - Jan 2018 YTD

Let’s evaluate what’s in store, going forth, with regards to the prospects of the steel industry and its impact on Indian steel stocks.

Global capacities to shrink while utilizations to remain elevated.

China has pledged to reduce its capacity to under 1 billion tons by 2025. [https://reut.rs/2RUS3fm]. This means it will lower its capacity by 100 million tons (equivalent to the size of the US Steel industry) over the next few years. With global steel consumption expected to continue to grow on the back of infra spends, global capacity utilizations are expected to remain elevated.

The main economies which have a bearing on steel prices are the ones in a trade war, viz., US & China. With the US economy booming and a huge infrastructure of many years under strain, it’s only a matter of time before infra capex peaks up in the US. Demand is expected to remain firm and trade barriers have ensured that prices of US Steel remain high.

Contrary to expectations, China’s Steel prices have corrected a lot less than feared, as China fights pollution and closes down unprofitable steel mills, while there is a huge shift in capacities moving from blast furnaces to EAF production.

# Prices are converted $ at Rs 71/$.

Despite prices being well above the anti-dumping trigger levels, there has not been much softening in domestic steel prices as the significant INR depreciation has resulted in protecting domestic steel producers (despite the softness in China’s markets). Further, with the government expected to ease liquidity and possibly lower interest rates, we expect another slide in the INR rate and this should help cushion the domestic steel industry from any further softening of international pricing.

Strong domestic demand and limited capacity expansion to ensure robust growth for the steel industry.

Indian steel consumption is expected to grow at a robust 5-7% CAGR over the next decade, necessitating capex in steel over the next decade. If no capacities are planned now, it will only mean shortages by FY2023. With existing players investing for growth in the defunct capacity of NCLT cases, no fresh capex can be expected as they are maxed out in terms of resource mobilization. This would mean that robust demand and hence strong price trends will persist.

Despite US tariffs being imposed on steel imports, global prices have not crashed. This suggests global steel demand will continue to remain robust. Also, both warring parties agreeing not to impose further trade barriers from January 2019, preempts the situation from worsening.

Compelling demand-supply dynamics will mean flows to the sector will eventually follow

With the liquidity being sucked out of the US market, any material slowdown will mean that rates will remain soft, leading to the USD depreciating and funds moving outward to Emerging Markets, given the relatively attractive valuations. We believe that the undervaluation of steel stocks is overdone, and these can rebound sharply.

What factors can spoil the impending party?

• Sharp slowdown in the economy.
• Fed continues to cut back liquidity and hike rates sharply.
• Sharp increases in Input cost pressures (Pet coke, Met cokes prices)

So what do you think…which way are steel stock prices headed?

Let us know in the comments below.

*Source for all visuals: www.steelmint.com and Bloomberg

Disclaimer:

We, Ventura Securities Ltd, (SEBI Registration Number INH000001634) its Analysts & Associates with regard to blog article hereby solemnly declare & disclose that:

We do not have any financial interest of any nature in the company.

We do not individually or collectively hold 1% or more of the securities of the company.

We do not have any other material conflict of interest in the company.

We do not act as a market maker in securities of the company.

We do not have any directorships or other material relationships with the company.

We do not have any personal interests in the securities of the company.

We do not have any past significant relationships with the company such as Investment Banking or other advisory assignments or intermediary relationships.

We are not responsible for the risk associated with the investment/disinvestment decision made on the basis of this blog article.