Good chance of cement firms underperforming markets again

Cement outperformed the market in January-March, though the demand was weak across the construction industry

Commodity traders are very comfortable with the concept of seasonal trade. It mainly pops up in agro-commodities of course. Tea, coffee, cotton, sugar, various edible oils, etc, are all seasonal. In a different way, oil is subject to higher seasonal demand because it is used for heating in winter.   

There are other commodities which have seasonally peaking demand patterns. Old-timers on the stock market will be aware of a particular pattern with cement stocks. The peak construction season is January-March or fourth quarter of the financial year. Cement demand peaks during that quarter and it usually shows up in higher despatches and higher prices. This usually translates into a positive three-month performance for cement manufacturers.

During this period, cement offers good prospects of long trades for any momentum player. In seven of the past 10 periods between January and March, share prices in the cement sector have delivered both positive returns and outperformance versus the major market indices. Please note that outperformance may not mean positive returns in absolute terms.

The opposite situation tends to hold true during the rest of the year. Cement tends to underperform the broader market between April and December. In seven of the past 10 April-December periods, cement underperformed the broader market over that nine-month period. However, the cement industry did register positive returns on seven of those occasions - underperformance doesn’t necessarily mean negative returns in absolute terms.

The first five years of that period (2004-2008) featured the biggest bull market in India’s history and also the strongest construction boom. The next five years included three damp squibs, when construction went into a recession and cement suffered from overcapacity. But the pattern has, by and large, held.

Cement outperformed the market even in January-March 2014, though demand was weak across the construction industry. The following pattern of underperformance through April-December 2014 could have already started and it may be masked by the fact the entire stock market is moving up on positive political expectations.

The cement industry has some other themes which are worth noting. Production is very power-intensive and cement doesn’t travel all that well. Hence, there can be regional imbalances in supply and demand.

There is on the whole, surplus capacity across India and, indeed, across the world. There is also a trend of consolidation with giants like Holcim and Lafarge merging. This is also being seen in India and the mergers across the industry should eventually help in terms of the industry regaining pricing power.

In January-March, cement prices rose significantly across northern markets while prices stagnated in the south. Expectations for the industry will revolve around the revival of the real estate industry and the rebooting of multiple stalled infrastructure projects. That would improve offtake. Indeed, some of the surplus capacity was built around those assumptions of growth. Margin pressures are likely to remain high until and unless power costs stabilise at lower levels.  

The cement industry delivered good outperformance between January and March. It would be tempting to stay locked into long positions in these stocks. However, this seems to have been just the usual seasonal effect rather than a cyclical turnaround. There is a pretty good chance the cement industry will start under-performing the markets again.

The auth or is a technical and equity analyst