20140710-Maybank_KERPL-2015_softr_ecovery_as_imbalances_ease_32页_1mb

Materials Sector Summary

Core Content

The materials sector is expected to experience a soft recovery in 2015, driven by rising global consumption and falling production growth due to low prices and capital expenditure cuts. China's PMI above 50 signals positive momentum, especially as domestic equity markets have underperformed and materials sector returns are likely to be the highest after a cyclical downturn. The recovery is anticipated to be modest, with limited upside for certain commodities such as iron ore, gold, coal, and steel, and more potential for nickel and copper.

Main Points

• Global Recovery: The soft recovery is supported by the Fed's tapering, which suggests more sustainable US economic growth and consumption. India's new government is also expected to drive growth through infrastructure initiatives.
• Commodity Performance: Nickel and copper are forecast to outperform in 2015, with zinc showing upside potential. In contrast, iron ore, gold, and thermal coal are expected to underperform.
• Credit Tightening in China: While the credit tightening cycle has ended, commodity financing abuses are likely to delay the recovery, but not prevent it, once inventory de-stocking is complete.
• Regional Outlook: The US and India are seen as more positive for materials demand, while China's growth remains neutral, leading to a cautious outlook for its domestic materials sector.

Investment Recommendations

• Top Picks for 2015: Nickel and copper are the top metals for investment. Specific stock recommendations include:
  • Nickel: Vale Indonesia (INCO IJ; IDR3,720; BUY; TP IDR4,600), Nickel Asia (NIKL PM; PHP33.80; BUY; TP PHP43.87)
  • Copper: MMG (1208 HK; HKD2.53; BUY; TP HKD2.75)
  • Aluminium: Jiangxi (358 HK; HKD13.38; BUY; TP HKD15)
  • Thermal Coal: Shenhua (1088 HK; HKD21.70; BUY; TP HKD24)
• Underperformers: Angang (347 HK; HKD5.34; SELL), China Coal (1898 HK; HKD4.16; SELL), and Huadian (1071 HK; HKD4.94; HOLD) are viewed as underperformers or less favorable investments.
• Trading Opportunities: Chalco (2600 HK; HKD2.86; BUY; TP HKD3.20) is a trading play, with a preference to exit as aluminium prices rise.

Key Risks

• Near-term Risk: The fallout from commodity finance trade abuses in China could delay the recovery, especially if the unwinding of credit issues takes longer than six months or if large inventory de-stocking occurs.
• Geopolitical Risk: Conflicts in the Middle East could disrupt oil supplies, leading to higher energy prices and negatively impacting industrial demand and commodity markets.

Probability of Price Movements in 2015

• 65%: Base metals prices are expected to rise moderately by an average of 10%.
• 25%: Prices may remain volatile but in a downward trend, especially if China's growth remains neutral.
• 10%: A strong across-the-board rally of more than 20% YoY is possible, though unlikely, with exceptions for nickel and zinc.

Sector Outlook

• Steel: Expected to see limited improvement in 2015 due to overcapacity and weak fundamentals. Maanshan Steel is preferred over Angang due to better positioning and potential for improved profit margins.
• Thermal Coal: Expected to have the lowest consensus growth, with Shenhua as the top pick due to its reliable dividend and potential for seasonal price increases.
• Aluminium: Fundamentals are improving, but supply growth may offset demand, leading to a more trading-oriented approach.
• Copper: Expected to benefit from infrastructure investments in China and India, with MMG and Jiangxi as top picks.
• Zinc: Shows upside potential due to lower LME inventories, but carries some risk.
• Iron Ore and Gold: Expected to underperform due to weak demand and oversupply.

Valuation and Earnings Trends

• Earnings: The 2015 consensus EPS growth is expected to be highest for Chalco and Angang, but too optimistic for the steel and coal sectors.
• Dividend Yield: Shenhua and Jiangxi offer higher dividend yields, making them attractive for income-focused investors.
• Valuation: Most stocks are valued at a discount, with some showing strong upside potential if fundamentals improve.

Summary Table of Key Metrics

Conclusion

The materials sector is set for a soft recovery in 2015, with nickel and copper leading the way. While the outlook is cautiously optimistic, investors should be mindful of credit-related risks in China and geopolitical uncertainties in the Middle East. The sector remains highly cyclical, and while some stocks offer strong upside potential, others are viewed as underperformers or trading opportunities. The overall consensus forecasts are too optimistic for some sectors, especially steel and coal, while others like copper and nickel are seen as growth plays.