Short Call | Tough time for chemical stocks, vanishing paper profits, and UTI AMC

What gives? Analysts who have attended the earnings calls of some of these companies say the managements themselves do not sound convincing when

they say that things will improve significantly from the third quarter. Remember, many global chemical majors have warned of weak demand over the last couple of months. Any recovery in sentiment for chemical stocks will require two triggers: rise in demand and China not dumping its excess inventory.

Second, valuations of chemical companies are not cheap at this point after the post-Covid run-up, given slower earnings growth. Chemical companies are in the process of adding capacity and maintain that the long-term outlook remains promising. Investors are not disputing the long-term story, but they certainly are looking for prices to correct some more before opening their wallets.

Expectations matter, not earnings

We are past the half-way mark of the current earnings season, and it has been a mixed picture (as always) — few surprises, few misses and a whole bunch of on-expected-lines numbers. Stock prices have been indifferent to most earnings, barring, say an Infosys, where the sharp cut in full year guidance came as a shocker. When you look at it, the mood right now is less upbeat compared to what it was in April and May when companies were announcing their fourth quarter numbers.

At the aggregate level, the fourth-quarter performance was decent at best, but because expectations were low and stocks had been hammered in March, investors were prompt to reward companies even if it was a case of the numbers not being as bad as was feared. Contrast that with the situation now where even a strong set of numbers is not good enough to sustain the stock gains beyond a day or two. Experts say the story hereon is unlikely to be that of a price earnings (PE) multiple rerating, meaning investors willing to pay a higher valuation if the earnings outlook remains the same.

The earnings will have do the talking. So far, there have been no major earnings upgrades. There were not too many even after the fourth quarter, but at current valuations, the pace of upgrades will be crucial if stock prices have to retain their altitude.

Steel story

The market still has not been able to make up its mind on steel stocks. JSW Steel has impressed analysts with its first quarter numbers, while Tata Steel’s bottomline may have slipped into the red, but for a fat slice of other incomes. India is now globally among the most cost-efficient producers of steel, but a dour outlook on commodity prices in general is holding investors back. While JSW Steel shares hit an all-time high after the quarterly numbers, the stock price is less than 10 percent above the peak seen in April last year.

Tata Steel boss TV Narendran sees domestic steel prices down by Rs 3,100 per tonne this quarter and by €35-40 in Europe. While the export market has been weak for a while now, many were hoping that strong domestic demand should make up for it. Demand has been steady, but the margins do not seem to be as good as the companies would have liked. Investment in capacity expansion continues, and that too could keep the operating margins in check. The story looks good, but only for the patient investor. Those hopeful of quick gains will have to try their luck elsewhere.

Paper profits vanish

Last year, paper was one of the hot stories in the midcap space. Paper has always been a cyclical story and it is not just good enough to catch the upcycle in time, one needs to exit well in time or risk being stranded for a while. After a good run in 2022, paper stocks have underperformed in 2023 year-till-date. Amnd the near term outlook does not look all that inspiring, going by the commentary of JK Paper. The company has said that margins in its packaging board business may not improve much this quarter as well, although volumes could start looking up by the end of September.

Strong start

The strong set of first quarter numbers from UTI Asset Management must be causing investors to wonder if it is time to start loading up on shares of asset management companies. HDFC AMC has had a good run over the last month, but investors have been tentative about UTI AMC. Fears of tighter regulations hurting AMC’s earnings have receded, after Sebi said it would come out with a fresh set of guidelines for the Total Expense Ratio charged by fund houses.

The main worry, however, has been how much yield the fund houses across the board will be able to squeeze from their assets under management even if TER regulations are to be benign. On that front, investors don’t seem too convinced for now.