Graphite India, HEG extend rally in a weak market on strong outlook

HEG has moved higher by 9.5% to Rs 4,239, extending its previous 20% surge, while Graphite India has locked in upper circuit for the second day in a row, up 5% at Rs 871 on the BSE.

Shares of graphite electrode (GE) manufacturing companies such as Graphite India and HEG were trading higher by up to 9% in an otherwise weak market on the expectation of strong earnings growth.

Graphite India was locked in upper circuit for the second day in a row, up 5% at Rs 871 on the BSE.  A combined 914,725 equity shares changed hands and there were pending buy orders for 313,348 shares on the NSE and BSE.

HEG also moved higher by 9.5% to Rs 4,239, extending its previous 20% surge on the BSE. The trading volumes on the counter more than doubled with a combined 658,664 equity shares changed hands on the NSE and BSE so far. On comparison, the S&P BSE Sensex was trading 2.4% or 844 points lower at 33,917 at 10:38 am.

In past one year, HEG (up 227%) and Graphite India (up 97%) have outperformed the market by surging more than 90% against 6.6% rise in the benchmark index.

HEG reported a net profit of Rs 18.60 billion for the trailing 12 months ended June 2018 against loss of Rs 295 million in the same period last year. Graphite India too posted 13-fold jump in its net profit at Rs 17.42 billion against Rs 1.31 billion.

Bank of America Merrill Lynch (BofAML) initiated coverage of HEG with a 'Buy' rating and target price of Rs 6,700.

“HEG has seen a significant rise in profitability over the last 12 months as graphite electrode (GE) prices have risen fivefold. Chinese limits on steel production and efforts to cut pollution are lifting steel output by Electric Arc Furnaces (EAF). High entry barriers and limited needle coke supplies mean we see capacity staying tight and a multi-year period of high prices and profit. With 99% of revenue from electrodes, 2/3 as exports, HEG is the purest play on the global sector,” BofAML said in a note.

We forecast an extended period of strong earnings driven by a supercycle in graphite electrode demand and pricing and see HEG as the purest play on the sector. Sector strength is driven by Chinese policies to curb pollution and limit steel output, which is lifting electrode demand globally. Producers are inhibited to add supply given limited needle coke availability. HEG's valuation does not appear to have priced the strength and longevity of this cycle, in our view, added report.