Metal & cement stocks looking strong. What to do now?

Rakesh Arora, Managing Partner, Go India Stocks, says there has been a sharp fall in cement prices, mostly in South India and East India and so much so that a lot of smaller companies would have become loss-making. So, the rebound in cement prices is a natural phenomenon because the prices have been cut so low that they are jumping up. But will it sustain? That depends on how the top two players behave in terms of market share war, etc.

Suddenly there is a surge in metals. Cement is also looking strong. So, let us start with metals. We have seen a sizable comeback in global metal prices and local metal stocks. What is leading to this optimism?

Rakesh Arora: Macro factors are supportive of commodity prices going up. One, obviously, we are seeing an interest rate cut cycle in the US, which is leading to a weaker dollar and is supportive for commodity prices. Number two is, there is a lot of expectation on China’s stimulus package and the latest PMI data that has come across from China, Eurozone, the US and even India; everything is pointing to multi-year highs. So, demand should also be really good. So, this kind of environment makes a good case for commodities to move up. That is what the market is factoring in currently.

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Will it be similar to, let us say, what we saw post Covid where we saw a huge uptick. The cycle lasted for 18 to 24 months. Are we in that kind of a big comeback in commodities?

Rakesh Arora: I do not think the stimulus is going to be as strong as what we saw post Covid. It is more of a readjustment or a rebound to a normal cycle. My expectation is that commodities will have an uptick, but it is not a full-blown bull cycle. There are a few reasons for that. One is that China is no more the same force as what it was like a decade back. The financial efficiency, the capital efficiency in China is actually reducing.

So, the same amount of stimulus is not producing the same amount of demand pull and the domestic consumption for China remains extremely weak. If you look at all the parameters in the form of consumer confidence, etc, they are also at a very low level in China. China has been producing a lot, but they are exporting it largely to the world. And so, in the first two months, we have seen steel exports increase by 23%.

Now, this is coming on the back of a six-seven-year high in exports of steel last year. So, already, China is exporting a lot and as you would have been hearing that China is also creating a lot of pressure in the new-age products, be it EVs or solar panels. The deemed export of commodities in steel is also extremely high from China. So, there are a lot of disinflationary waves coming out of China. I do not think commodity prices have the same kind of strength as we saw post COVID or pre-Global Financial Crisis. It is more of a little bit of a rebound. I would not really put it as a bull-bull cycle.

Are we likely to see any regulatory action which could dampen the spirits of metals? When I say regulatory action, soon talk around inflationary impact on interest rate cycle will start again. Could that really pour cold water on this bounce?

Rakesh Arora: No, I do not think commodity prices will move that much. Actually, as we speak, steel prices are at like a two-year low or something like that and the way iron ore and coking coal prices have fallen, I do not think steel prices have any chance to actually move up from current levels. We are not really talking about big moves in commodity prices.

There would be 5% to 10% kind of moves at the max. So, I do not see any regulatory action. Meaning, on the contrary, people were expecting at least in India, that there would be some regulatory action to prohibit cheaper imports out of China. But that again, I do not see that happening anytime soon. Regulatory-wise, I really do not see any major action.

The other segment that I wanted to talk about was cement. It seems after five months of price cuts, the cycle is finally turning around to an uptick in prices. Does this price hike seem sustainable?

Rakesh Arora: We will see. You have to look at the reasons why prices went down and the reason is that the top two biggies, which is UltraTech and Adani Cement, rather Ambuja and ACC, have been fighting it out for market share and they have been pushing volumes very aggressively. And prices and volumes never really go hand-to-hand in the cement industry.

Until and unless that mindset changes, these bounces will be limited. We have seen a sharp fall in cement prices, largely in South India and East India and so much so that a lot of smaller companies would have become loss-making. So, this rebound is a natural phenomenon because the prices have been cut so low, that they are jumping up. But will it sustain? That depends on how the top two players behave in terms of market share war, etc. I do not see that changing immediately. So, probably, there would be a little bit of bounce, but I do not think it will go the whole way. People were expecting Rs 1400, 1500 per tonne margin. I think we are back to Rs 1,000 level now.

What would you bet on in the cement sector – UltraTech, which has got size and reach or ACC-Ambuja which is big and there is a case for synergies and cost benefits to kick in after the change of guard? Or would you bet on a cyclical bet like a regional player?

Rakesh Arora: There are two players here. One is companies which are growing and those are the guys who would continue to deliver sustainable returns. So, both UltraTech, Ambuja-ACC and even some of the other names like Shree, Dalmia fall into that category. These are the biggies which will continue to grow and gain market share. So, for somebody looking to invest, this is the basket.

The second basket is where there would be a lot of consolidation happening in the coming year post elections because given the way cement prices have fallen and these guys are looking to gain market share, some of the smaller players will be taken out. That would be the other basket which one can look to play. But remind investors to note that valuations are unlikely to be anywhere north of $85-90. It is not that they are going to pay top dollar to acquire these capacities.

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