Non Ferrous metals stocks: Where are they heading? - Views on News from Equitymaster

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  • Jun 16, 2009 - Non Ferrous metals stocks: Where are they heading?

Non Ferrous metals stocks: Where are they heading?

Jun 16, 2009

The Indian stock markets have put behind the worst and have rallied more than 50% in 2009 till date. During this period, various sectors and stocks in particular have outperformed the index by rising anywhere between 100% and 200%! Banking, metals, capital goods, infrastructure and construction are few of the sectors, which have outperformed the benchmark indices. In this article, we will focus on non- ferrous metals like Hindalco and Nalco, which have outperformed the benchmark index by a comfortable margin by logging in gains of 85% and 83% respectively. In this article, we try to determine the reasons for this outperformance. Before getting onto the reasons for the stock price rise in Hindalco and Nalco, it must be noted that Nalco is among the lowest cost producers of alumina and aluminium in the world, while Hindalco is among the leading producers of aluminium as well as copper in the country.

Source: LME Source: LME

As can be seen from the above charts, both the aluminium and copper prices have strengthened since the beginning of January 2009. While LME prices of aluminium grew by around 10% in last 6 months, the same for copper surged 71% during the period. If one were to closely observe the inventory situations of both the metals at LME, it shows that the inventory of copper has been decreasing, while that of aluminium is standing at multiyear highs. It has been also reported that China is buying these metals in huge quantities to not only meet demand on account of its enormous fiscal package but also to stockpile it for future needs. It must be noted China accounts for more than 25% of world aluminium consumption and about 20% of world copper consumption. The demand for metals is also being supported by the gradual global economic recovery, especially in the emerging markets like India, Russia, and Brazil etc.

If one were to closely observe the movement of metal stocks, particularly Hindalco and Nalco vis--vis the Sensex during the second and third quarter of FY09, when the world was exposed to the global financial crisis, these stocks were beaten down significantly as compared to Sensex. The reason attributed for the sharp decline in the stock price of Hindalco was on account of the leveraged buyout of Novelis in FY08, while that for Nalco was the falling demand for alumina in the overseas market. With reference to Hindalco investors were concerned about the company's ability to service the debt it took for the acquisition, while for Nalco it was its significant dependence on exports market that hurt its stock price. Moreover, the demand for metals going forward was presumed to be sluggish.

As a result of these concerns, these stocks were beaten down by more than 80% from their 52 week high price. The markets were pricing these stocks as if no demand for metals was going to exist in the future. It seemed that the growth in demand for the metals from the domestic markets was completely neglected. However, from the risk reward perspective, the stocks did look attractive if one were to take a long term view on these companies. Thus, when sentiments improved and investors once again started looking for risky asset classes, these companies, on account of their strong long term fundamentals came back in the reckoning and witnessed, huge surge in their market values. The fact that LME metal prices started inching northwards also helped matters.

Where do we go from here? As far as aluminium is concerned, one look at the current inventory and it becomes clear that the rise in Aluminium prices had more to do with the ample liquidity in the system than any improved fundamentals, thus making the rally susceptible. Even for copper, the price may have risen, too much too soon. Hence, do not be surprised if these companies witness a correction in the near future. If it does indeed happen then it could be a good opportunity to invest as the long term fundamentals, both from the metal prices point of view and volume growth point of view still look attractive.

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