70%, 100% and 200%! These are the returns an investor could have made in 2002 by investing in Tata Iron and Tata steel (TISCO), Steel Authority of India (SAIL) and Essar Steel respectively. Compare this to the BSE-Sensex return of 3.5%. Here is a sector that has outperformed the index in a big way.
Tisco : Leading the way
However, 2002 is over and now the question in an investor's mind should be, what next? Will the prices continue to improve or stay at current levels? Will the volumes growth be as impressive as it was in the year 2002? Will the demand continue to show signs of improvement or stabilize at the current levels? In short, will the steel stocks be able to outperform the markets yet again?
The current scenario seems to suggest that the next two quarters could see strong performance, which might start to stabilise in the second half of 2003. But the average performance of the sector as a whole, at the end of the year, would be good. This optimism towards the steel sector can be backed by various developments taking place.
|SAIL and ESSAR : Also in favour
The government has set an optimistic growth target (8%) for the economy. Though the past track record fails to enthuse such confidence, it must be said that the government's focus on infrastructure development (roads, railways, ports, airports, irrigation and power) is gearing up the country towards an 8% growth in the long term. Steel, being a core sector, would be immensely benefited by higher economic growth.
There has been a sustained rise in steel prices since early 2002. This trend has continued in the New Year too, with all major players announcing price hikes in the very first week of the year. Indications are that another price hike could be in the pipeline. The price hikes so far have taken place on the back of firm steel prices in the global markets. Higher current prices and probable price hikes mean that the current strong performance of the steel companies is likely to be maintained at least for the next two quarters.
The government has also lend a helping hand to the steel sector by approving a financial package for some steel companies which includes waiver of penalty on loan defaults, conversion of portion of debt from financial institutions (FIs) to equity and a reduction in interest rates. The government is of the view that such steps would help the steel companies turnaround faster.
At the international level too, positive developments are taking place. In a move that would result aid strengthening of global steel prices, Organisation for Economic Co-operation and Development (OECD) members have decided to work towards eliminating subsidies provided to the steel industry. Elimination of steel subsidies would help reduce global steel production, as unviable steel capacities thriving on subsidies would shut down, and consequently prices could improve.
China, whose GDP is growing at 8% is likely to continue creating demand for various commodities, especially steel. The Russian economy is also on the recovery path, which would contribute in improving the current demand-supply mismatch. Added to that, there is a general feeling that 2003 is likely to be better for the US and European economies as compared to 2002.
Indian companies are well placed to reap the benefits of the current upturn in the steel sector. It must be noted that Indian steel manufacturers are one of the lowest cost producers in the world. So any improvement in steel prices would directly add to the bottomline of these companies. On the flip side, investors should be watchful of any signs of weakness in international steel prices.
Also, a word of caution is advised on stocks like Essar Steel and SAIL. On one-hand where Essar Steel is burdened with huge debts, it is to be remembered that SAIL is a public sector banks undertaking and has continuously posted losses for the past four years (FY99 to FY02). The significant rise seen in the stock prices of these companies is due to a very small base. While these stocks could benefit from the general improvement in the business prospects of the sector, an investment in these companies is an extremely risky proposition.