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India metals and mining
Outlook 2011: Buy laggards
Stronger for longer makes a comeback
The developed world seems to have avoided double dip, and China has not
capitulated, creating a powerful outlook for commodities. No wonder, our
Commodities team has increased metal price forecasts for FY12 in some cases
as high as 40%. And, in our view, current ongoing supply disruptions have the
potential to push prices further upwards. Our preferred commodities are coking
coal, copper, thermal coal, and iron ore.
Top Picks:
Materials is a key overweight in India’s model portfolio. Our top pickis JSP.
In steel, we prefer Tata Steel.
Sterlite is our preferred base metal pick.
GNC is our preferred coking coal exposure,
and we have upgraded Hindalco.
Avoids: Nalco, HZ and NMDC look expensive to us.
2010 – earnings growth, but no stock return
Last year, only Hindalco (up 35%) and HZ (up 5%) managed positive returns (vs
a return of 7.5% for the index) among stocks under our coverage, even though
earnings improved by 47% for the pack. We are estimating 27% growth for FY12
and expect the laggards to pick up as earnings visibility improves. We expect
some hiccups if the proposed 26% tax on mining profits is enacted.
Steel – high iron prices add to competitive advantage
Iron ore forecasts have been increased by 16% for FY12, and this augurs well
for Indian steel companies with captive iron ore, which now have a competitive
advantage of US$200/t of steel. We continue to like Tata Steel among the pure
steel companies, more as a restructuring story. JSP remains our preferred stock,
as we expect its steel capacity to increase fourfold in next five years, to 14mtpa
from 3mtpa currently. We have upgraded SAIL to Neutral, as we believe that the
worst is factored in but are in no hurry to accumulate given the FPO. JSW Steel
is now looking very attractive valued to us.
Base metals – like copper and aluminium
Sterlite remains our top pick, as we believe that the market has fully factored in
the negatives and that the focus will shift to profits doubling in next two to three
years. We upgraded Hindalco to Outperform, as we are more bullish on
aluminium in the near term.
Coal – we like both coking and thermal
Coking coal prices have been upgraded to US$251/t for FY12 and to US$135/t
for the long run. In our view, GNC is the best stock here; with production
expected to increase sixfold in the next three to four years, the company should
see its large inventory stock sold now as prices are strong. Coal India appears
well placed to gain from the thermal rally; however, concerns about government
restricting price increases to curb inflation prevent us from being more positive.
Iron ore – like it but better played through steel companies
We increased iron ore prices as supply-side issues surface. However, we think
NMDC remains expensive and likely to miss volume numbers. Moreover, we are
concerned about the proposed 26% tax on profits.
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