There are many reasons not to invest in steel: depressed demand,
excess capacity, poor earnings, and steel stocks in Asia have
outperformed the markets by 16% YTD and 28% from the bottom.
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However, the consistent fall in inventories across Asia and globally,
and the upside risk in demand from China and India have made us
incrementally more positive on the Asian steel sector. Our case study
suggests that in the last deep cycle, US steel prices rallied by 70%
(driven by the inventory cycle ahead of demand) and that US steel
stocks outperformed the S&P by 40-80% over the period.
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We see continued upside for the sector to normalised valuations
(20-60% for 12 out of 17 stocks under our Asian steel coverage),
underpinned by an improvement in steel prices in 2H09. The recent
recovery of scrap prices in the US and Japan, as a precursor to a
potential steel price recovery, builds further confidence in our call.
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We reiterate our OVERWEIGHT on the Asian steel sector. Our top picks
in the region are Angang, Maanshan, JSW, JFE and POSCO. These are
derived by rankings in upside to normalised P/B valuation, based on
ROE generated from mid-cycle unit EBITDA for each stock,
benchmarking historical cycles and adjusted by company-specific
structural changes (product mix upgrades or cost cutting).