Resolve of US-China trade dispute, a distant event and thereby the gloomy outlook for commodities
* Admittedly, it takes long time for agreement on such a complicated and vital trade deal. However, given the tough stand taken by both the trade partners on their respective demands and lacking solidarity, it seems unlikely to have defined and clean deal in near term. In anticipation of continuity of elevated duties, various industries have started investing to augment capacity or restart closed capacities. This poses additional risk to the deal as it would become for US to dilute its demands.
* Trade uncertainty and weak local sentiments to keep economic activity in China under prolonged weakness
* Auto sales, Freight traffic, Property sales would remain under prolonged weakness due to highly volatile environment.
* China announced measures including cut in VAT, rationalization of Govt fees/taxes, cut in RRR and increase in spending to stimulate growth. However, the impact would be limited in light of fading sentiments and under distress fiscals of Govt.
* High iron ore (IO) prices to suppress the spreads
* IO prices to remain firm at USD 90-100/t for medium term due to supply issues in Brazil (impacting 3% of global sea-borne trade).
* Facing headwinds of sluggishness in demand, oversupply and high IO prices, global steel spreads would remain under pressure with levels at US $190/t. Depressed spreads would restrict global steel prices in the range of US $510-520/t in medium term.
* Provisional Safeguard Duty (PSD) on suo moto basis, a near term positive with six-month life
* The provisional safeguard duty would have six-month validity period on key products like HRC sheet/coils and plates (constituting ~46% of total flat imports) due to cooling period restrictions under WTO.
* Highly leveraged B/S of Indian steel sector to structurally compress equity value:
We see weak earnings outlook for Indian steel producers on the backdrop of sustained pressure on steel prices, sluggish demand in domestic and exports market and restricted options for duty protection in medium term. It can be argued that stocks have come-off sharply in past couple of months. But, we strongly believe that abnormal level of leverage (avg. Net debt/EBITDA-3.7x FY21e) and lack of realisation would prolong the de-rating of valuations.
* Tata Steel (Reduce with TP Rs 350): Sharp deterioration of B/S (Net debt/EBITDA-4x FY21e) drives downgrade.
* JSW Steel (Reduce with TP Rs 200): Reiterate rating due to highly expensive acquisition of BPSL and rich valuations
* Jindal Steel and Power (Accumulate with TP of Rs 135): Deleveraging theme intact with stable domestic steel and power operations
* SAIL (Reduce with TP of Rs 35): View unchanged due to its high dependence on prices and weak operational performance.
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