Why you should defer investing in metal stocks for now

By: | Updated: August 30, 2015 8:07 AM

Falling metal prices across the globe amid rising concerns over China slowdown has took the sheen off the metal companies.

metal stocksMarket analysts also believe commodity prices continues to remain negative and metal industry may remain sluggish at least for two more quarters. (PTI)

Falling metal prices across the globe amid rising concerns over China slowdown has took the sheen off the metal companies. The BSE Metal index has been underperforming the key benchmark index in the ongoing calendar year. On a year-to-date basis, the BSE Metal index tanked over 33 per cent to 7,162.40 on August 26 from 10,752.69 on December 31 last year. The key benchmark BSE Sensex tanked 6.49 per cent during the same period.

Metal and mining stocks dipped between 7 per cent to 60 per cent during December 31 and August 26. Share price of Vedanta (down 60 per cent), Jindal Steel (down 55.81 per cent), Hindalco (down 48.83 per cent) and Tata Steel (down 46.04 per cent) retreated the most during the same period.

According to market experts, the sector has been under pressure due to slide in commodity prices. China which is a major consumer of metals globally has been slowing down over the last couple of years. China’s GDP growth rate has fallen from a peak of 14.2 per cent in 2007 to 7 per cent in 2015.

China accounts for around 58 per cent of iron ore and 65 per cent of metallurgical coal demand in the world. Even among non-ferrous metals such as Copper and Nickel, China accounts for 28 per cent and 33 per cent, respectively.

Rahul Dholam, senior research analyst, metal and Mining, Angel Broking, said, “A slowdown in Chinese demand is causing steep drops in metal prices. Metal companies are also struggling with huge amounts of leverage at a time when commodity prices are down. This is resulting in a deep dent on their profitability.”

Vedanta in an effort to deal with declining metal prices has decided to close down its one million tonne alumina refinery at Lanjigarh in Kalahandi district due to lack of availability of bauxite from Odisha and falling global aluminium prices.

Some of the positive developments in the sector have been the government reforms. The government remains focused on increasing the supply of coal in the domestic market. Production at Coal India has increased at 12 per cent year-on-year (yoy) in the first quarter of this financial year and looks set to achieve its production targets.

Dholam said, “The coal mine and linkage auctions would also increase transparency in allotments, thereby helping to increase the overall supply of coal in the country.”

The MMDR act clears the way for captive miners of iron ore and other non-coal miners to mine till 2030. The two hikes in the import duties on steel would help reduce the pressure from imports marginally. However, market experts believe these positives would not be able to offset the pressure from lower commodity prices, which should keep the metal stocks under pressure.

Bottomline figures of metal industry declined over 20 per cent on QoQ basis for the quarter ended June 30, 2015. During April-June 2015, consolidated net profit of Tata Steel and Vedanta jumped 114 per cent QoQ and 25.6 per cent QoQ to Rs 734.94 crore and 1,712.24 crore, respectively.

Jindal Steel and JSW Steel posted net loss of Rs 355.48 crore and 125.02 crore for the quarter ended June 2015 against net profit of Rs 401.58 crore and 643.68 crore, respectively, in the corresponding quarter a year ago.

Alex Mathews, head, research, Geojit BNP Paribas Financial Services said, “China was the major consumer of metals and the economy is now going through the rough patches. Demand from other emerging economies are also not picking up, which includes India.  Metal producers are already started cutting some of the product prices to preserve their market share after yuan’s devaluation, which will affect the profitability to a greater extent.”

In a BSE filing, Vedanta said, “Aluminium prices have collapsed globally in the past few months and the current indications are that this trend will continue.”

Market analysts also believe commodity prices continues to remain negative and metal industry may remain sluggish at least for two more quarters.

Dholam of Angel Broking said, “A huge supply of low cost iron ore from the four biggest global mining companies (Vale, BHP, Rio Tinto and Fortescue) will push out some of the high cost iron ore capacities globally. We expect this to keep iron ore prices under pressure. We also do not expect any immediate pick up in world demand for metals, led by lack of growth.”

Chinese authorities are taking various measures to support the sagging economy, where their equity markets are facing the heat of economic slowdown and higher valuations. Chinese realty sector is also under threat because of the lower demand and higher inventory.

Mathews said, “As long as Chinese economy is under the threat of slowdown the demand internationally will not pick up.  Domestic demand will pick up once the proposed government investments in the infrastructure sector materialise. Overall metal industry may remain sluggish at least for another six months.”

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