China’s response to a slowing economy is fuelling hopes that it’s the turn of steel stocks to benefit, as investment in infrastructure and real estate bolsters the industry’s most crucial drivers of demand. The turnaround in economic data of recent weeks suggests that stimulus rippling through the economy will soon fix on the relatively unloved steel sector, which has so far lagged the stellar gains seen elsewhere in mainland stock indexes. A spurt of local bond issuance to fund roads, homes and other infrastructure is augmenting tax cuts and other fiscal measures, helping to lift gauges that measure industrial activity and credit growth.
The salvo of positive stats comes as mills contend with lower prices and higher raw material costs after Vale SA’s deadly dam burst in January put a rocket under the iron ore market. The nation’s No 3 listed mill, Angang Steel Co, warned last week that first-quarter profit would dive 78%. The firm is set for lower earnings this year, as is top steelmaker Baoshan Iron & Steel Co, according to latest estimates. Analysts haven’t been deterred. Twenty of 23 who follow Baosteel have a buy on the stock, with Goldman Sachs leading the ratings with a target of 10 yuan, about 30% above its current level. Morgan Stanley, which prefers steel and cement stocks among materials, said earlier this month it’s becoming more optimistic on China’s construction sector, which accounts for 67% of steel demand.
“We are more bullish than we were,” said Yang Kunhe, an analyst with Pacific Securities Co. “The macro environment is improving and that keeps being verified by data releases.” That impressive run was capped on Wednesday with beats on first-quarter GDP and March figures for industrial production and retail sales, as well as record steel output. At the same time, other, steel-specific indicators are sending bullish signals.Inventory of reinforcement bar has started to decline earlier in the construction season compared to last year, according to data from Shanghai Steelhome E-Commerce Co, while margins are in a steady uptrend after bottoming at the end of 2018. Still, the concerns that have weighed on the steel sector haven’t disappeared. The trade war with the US remains unresolved, even as the headlines suggest negotiators are closing in on an accord.
And, the iron ore supply shock looks like it has a lot more room to run, with China’s steel sector unprepared for a looming shortage that will drive prices higher, according to Steelhome’s president. While stimulus is brightening the demand outlook, steel margins will be lower this year in the absence of the policy supports – plant closures and production curbs – that lifted prices to a seven-year high last summer, said Sandra Huang, an analyst with UOB Kay Hian. At the same time, the surge in iron ore costs and their impact on margins will be a “fundamental change” for the industry to weather over the medium to long term, she said. Others are more decisively bullish. “Now’s the time to buy steel stocks,” said Yang Hua, an analyst with Zheshang Securities Co Ltd He expects prices in the sector to rise 20 to 30% this year as stimulus kicks in.