Link between raw material costs, steel prices, and sector share prices weakens in Covid-19 era
Although the global steel industry is recovering (mainly in China), improvement in other regions is slow, and the link between raw material costs, steel prices, and sector share prices has weakened. We believe that the steel industry will be able to expand in earnest once stimulation of the economy is no longer necessary and central banks become less focused on liquidity expansion. With the shares of major players trading at P/Bs of 0.2~0.4x, a buying strategy should prove effective over the long term.
Link between raw material costs, steel prices, and sector share prices weakens
Having escaped the shock of Covid-19, the global steel market is seeing a gradual recovery focused on China. We expect earnings at leading domestic steelmaker POSCO (005490.KS) to improve in 3Q20 following a bottom in 2Q20, backed by both sales volume improvement (driven by a recovery in downstream industry demand following operational restarts) and active product price expansion to reflect raw material price growth.
However, a sharp rise in iron ore prices is to raise cost burden in 4Q20. Amid a steel market recovery led by China, recent steel price hikes have been insufficient to offset iron ore price expansion. In addition, the degree to which Chinese steel price growth is pushing up international steel prices looks weak. It seems that the relationship between steel prices and steel company share prices has deteriorated. In other words, the chain from iron ore price growth → steel price hikes → share price expansion (reflecting expectations for stronger profits at steel firms) is not holding up. Against this backdrop, we maintain a Neutral rating on the steel/metal industry.
Full-scale steel industry expansion possible once economic stimulus no longer required
We believe that the worst phase for the domestic steel market was witnessed in 2Q20, when sales fell sharply due to Covid-19. It is positive, in our view, that steel sales are now rebounding, backed by stimulus measures and manufacturing restarts. Nevertheless, the global economy is still dependent on stimulus, and uncertainties remain regarding economic recovery, including such factors as the US presidential election and US-China relations.
In the past, full-scale steel industry expansion was achieved at times when central banks were considering such options as base rate hikes. With inflation popping up along the way, raw material and steel prices rose in tandem, driven by demand-side factors. With the shares of leading domestic steelmakers POSCO (005490.KS) and Hyundai Steel (004020.KS) trading at P/Bs of 0.2~0.4x, a buying strategy based on expectations for a long-term economic recovery cycle should prove effective.