Investing ahead of cycles
􀂄 Steel prices at troughs and on track to a mild recovery
We expect Chinese steel prices to trough in the next 6-12 months with benchmark
HRC price to fall 34% Y/Y in 2009 before trending up a modest 5% Y/Y in 2010 as
the global economic stimulus measures and steel production cuts take effect.
Mike Harrowell, our Australian steel analyst, expects regional steel prices to fall
by 42% Y/Y in 2009 and increase by 0.6% Y/Y in 2010.
Steel prices to be range bound for most of 2009
We believe we are at or near the bottom of steel cycles. De-stocking might continue
in the next 1-2 months in China. But downside risks for steel prices should be limited
on Chinese demand, cost support and shutdown of capacity. In the next 6-12
months, Chinese steel prices are likely to be driven by inventory cycles and trade
range bound as end-users stick to a “need-to-buy” purchasing pattern.
China demand stabilizing, further improvement from 2H09
Chinese steel demand shows signs of stabilizing, though export continues to
deteriorate, and IP data suggest very sluggish activities. Sales of autos and home
appliances, property transaction volumes and infrastructure investments are
picking up momentum in an encouraging way. Bank loans and fixed asset
investments, too, have grown strongly in the first two months of 2009, paving the
way for sustainable demand growth in 2H09. In the developed countries, steel
utilization rate is at only 40-50% with low inventory. Current production levels are
about 20% below demand implied by industry and analyst expectations. There
should be a strong steel demand recovery if de-stocking ends.
Steel share prices at trough-level valuations
Mirroring steel prices, we see steel companies, such as Angang & Maanshan, are
trading at trough-level valuations. We expect profitability to pick up as steel prices
stabilize, raw material prices fall and utilization rates rise. We prefer Angang over
Maanshan on superior margins over time and stronger volume growth. Angang’s
higher ROE should also lead to valuation premium than Maanshan.

Investment summary
We expect steel prices to build a base in the next 6-12 months.
We believe China benchmark HRC price in 2009 should trade around current
levels at Rmb3,485/t tax included (US$508/t), and up by 5% Y/Y in 2010.
As steel prices building a base, steel share stocks are likely perform similarly. We
recommend buying on the lower end and selling at the higher end of the range, with
Angang trading between 0.6-1x 2010E P/B and Maanshan 0.5-0.7x 2010E P/B.
Both Angang and Maanshan have outperformed regional steel names in the past
few months. We prefer Angang over Maanshan.
Are we at the bottom yet?
We think the short answer is yes. The record-low utilization rate (40-50%) in the
developed countries, cost supports and steel mills’ loss-making results all suggest
to us we are at or near the trough levels.
Regional steel share prices are trading close to historical trough-level valuations
(0.5-1.1x P/B). Angang and Maanshan’s P/B, however, are significantly higher
than historical lows touched during trough time in 2001.
Below are some observations from the historical trading patterns of regional steel
stocks during trough cycles.
􀂄 Stock prices (P/B) pick up before steel price trough.
􀂄 Stock prices moved an average 2.1 months ahead of steel price bottoming.
􀂄 Stock prices tend to be range bound, at least 12 months after ROE bottomed.