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Metals pulse (December 2019) - Demand improvement boosts steel prices further

China PMI remained in expansionary zone (50.2) for the second consecutive month US and China have agreed to sign Phase I of the trade deal, which is positive for metals industry.

Ferrous: Steel prices rise in China and India; we estimate further rise in Jan

Firm steel demand in China boosts prices: Except in China, steel production fell across all major economies during Nov. Production in China rose 4% yoy in Nov 2019, after declining 1% yoy in Oct. Amid rising production, lower net steel exports suggests improvement of demand in China. Firm demand in turn aided 4% mom average increase in steel prices to US$546/t in Dec. While steel prices in the US too surged, those in Europe stabilised, on account of production adjustments to match weak demand.

Domestic steel prices in India rise in Dec with further increase likely in Jan: HRC retail prices increased by Rs1,000/t in Dec, on improved retail demand and restocking demand at dealers’ ends. As a result, retail steel prices Nov-Dec jumped by Rs2,000/t, with prices now at par with anti-dumping duty (ADD) reference price and import prices from Korea. Similarly, rebar prices too increased by Rs1,600/t. We expect steel producers to further hike prices by ~Rs1,000/t in Jan, post which, increase would be a factor of demand growth and international prices.

Domestic iron ore prices on the rise, global prices range-bound: The rise in global iron ore prices sustained above US$90/t (CMP: US$92/t) during Dec, driven by improved demand from China and tight market supply. We expect global iron ore prices to trade above US$80/t for few more months, given our view that global seaborne iron ore market remain in deficit. Even though Odisha miners raised prices by Rs150-400/t in Dec, NMDC retained its prices. With steel prices rising and steel producers accumulating inventories, likely fearing supply disruption, we expect NMDC to follow the footsteps of Odisha miners and raise prices. We expect ~Rs400/t increase in iron ore prices by NMDC during Q4FY20.

Iron ore mining auction to be completed in Feb 2020: The auction of 19 iron ore mines in Odisha is likely to be completed by Feb 2020. The Ministry of Environment and Forests (MoEF) has issued directives for new allottees to obtain fresh Environmental Clearance (EC). However, the Odisha government and MoEF are holding discussions, and if miners are allowed to continue with the same EC, it would be a favorable outcome. We foresee minimum supply disruption in iron ore post Mar 2020. In the recently concluded coal block auction, the Central government has allotted 5 out of 6 coal mines auctioned, however, refused to allot the Gare Palma IV/1 Block to JSPL in public interest, as the bid price was low.

Non-ferrous: Aluminium prices rebound in Dec; Zinc continues to decline

Aluminium – Partial trade dispute resolution has a positive bearing on prices: Aluminium prices recovered post US-China agreed to sign Phase I of the trade deal. The rise in aluminium prices to above US$1,800/t continues to sustain. We expect aluminium prices to remain range-bound in H2FY20E and average ~US$1,815/t in FY20E. However, resolution in trade dispute could positively impact aluminium demand in the medium-term and hence, impact prices.

Zinc – Still in short supply: Zinc prices averaged 5% lower mom to US$2,265/t during Nov 2019. Currently, prices are up 1% mom to US$2,272/t. Zinc consumption demand of 11.3mt (up 0.3% yoy) against production of 11.2mt (up 2.1% yoy) led to a deficit of 152,000 tonnes of the metal during 10MCY19. However, zinc is expected to be in surplus of 192,000 tonnes in CY20E. As a result, we expect zinc prices to remain high in H2FY20, on short-term supply deficit and average US$2,550/t. However, prices could taper to US$2,400/t in FY21E on improved supply.

Top Picks

• JSPL - We estimate 13% yoy volume growth (5.75mt) and EBITDA/t of Rs11,061 in FY20E. Balance sheet deleveraging could boost equity by Rs80/sh during FY19-FY21E. A favourable decision on lifting of iron ore inventory at Sarda mines would be additional trigger (hearing postponed to 17 Jan 2020).
• Hindalco –~65% of HNDL’s FY21E EBITDA is from Novelis, an efficient convertor. Given its low cost of production, HNDL’s Indian aluminium operation is unlikely to make losses even at LME price of USD1,500/t. HNDL trades at 0.96x FY21E adj P/B (ex-goodwill), on adjusted RoE of 13.6%, providing minimal downside risk. We value Novelis’ earnings at Rs189 at 6.0x FY21E EV/EBITDA, with Indian operation (1.3mtpa integrated aluminium plant with 0.5mtpa copper smelter) at Rs70, based on 5.0x FY21E EV/EBITDA.

·      NMDC - An expected favourable outcome on Donimalai mine, higher volumes from Kumaraswamy mine (1.5mt in FY21E) and higher iron ore prices solidify our positive outlook on NMDC. Allotment of Rohne coal block makes the steel plant more attractive. We believe the market will soon ascribe value to its steel plant wherein NMDC invested Rs160bn (to be commissioned by Q3FY21-end).