In spite of recent optimism, aluminium
remains in structural overcapacity
􀀗 Recent rally has encouraged a new
wave of supply from idled capacity
􀀗 Assume coverage of Zhongwang at
OW(V), keep UW(V) Chalco and Hindalco,
remain N(V) Nalco and Alumina
Near term overbought, structural issues remain. Over
recent months, aluminium prices have staged a sharp rally
driven by their laggard position, a slowing rate of stock build
and a widely held view that a large amount of LME stocks
are tied in financing deals. However, at above USD1800/t,
over 90% of the industry is now cash positive, which we
believe has triggered capacity restarts. In addition, the recent
rally and a contraction of the LME contango could see metal
exit from financing deals back onto the market. At current
levels, we expect a correction in prices, keeping LME price
forecasts largely unchanged at USD71c/lb (+4%) and
USD75c/lb (no change) for 2009e and 2010e respectively.
1H09 marking the bottom of the current cycle but
rebound forecast to be weak. With the exception of
Chalco’s worse than expected 1H result, aluminium stocks
broadly met or beat the market’s weak expectations. That
said, we believe weak utilisation rates (while improving)
may continue to suppress the earnings recovery. Post results
and our updated aluminium forecasts, we raise earnings by
an average of 5% in both the 2009e and 2010e years.
What’s in the price? With the global economy showing
increasing signs of bottoming out, the market has been quick
to return stocks back to historical mid cycle valuations, if not
more. Our analysis of average ROE achieved during the
‘boom’ years (2002-2008) highlights that the market is
currently discounting a return to these conditions. The
exception to this is Chalco, where implied ROE is currently
24%, against 19% achieved during the boom years.
How to play aluminium? At this point, we prefer
downstream aluminium opportunities to upstream plays. In
this report, we assume coverage of China Zhongwang
(1333.HK), the world’s third largest extruder and China’s
largest. Its downstream focus contrasts to the upstream focus
of other stocks in our coverage universe. Given its leverage
to China’s transport spending, we initiate with an OW (V).