Rise in Vedanta stock may be temporary unless commodity prices rebound

Promoter's stake buy positive, but prices of aluminium, copper, steel, natural gas, crude oil, etc are all down in the past month

An open offer from the promoters of Vedanta has led to a sharp turnaround in price. After losing sessions last week, the stock jumped over 7.7 per cent on high volumes when TwinStar Holdings and Vedanta Netherlands – both promoter entities– offered to buy 4.57 per cent stake (about 170 million shares) at an indicative price of Rs 350 per share.

This is a commitment of nearly Rs 6,000 crore, for the entire stake. The two big block deals by TwinStar and Vedanta NL have aggregated to over 137 million shares bought at Rs 350 for a total cost of Rs 4,820 crore for a 3.71 per cent stake on Tuesday.

Apart from the oil and gas division (formerly Cairn India), Vedanta is a pure-play industrial metals stock, with exposure to multiple metals. It has exposure in iron, copper, zinc, and aluminium through various divisions, which it could spin off into three different listed Indian companies.

Balance sheet concerns exist with Vedanta Ltd because the parent, Vedanta Resources, has a debt of $8.5 billion, with an annual interest liability of $7 million; over $3 billion of this is maturing in 2022-23. In 2020-21, Vedanta Ltd made a loan of $956 million to the parent and it may need to come up with similar large loans again. Apart from this, Vedanta has legal issues concerning its copper smelter in Tuticorin, which has led to losses for the copper division.

Beyond these concerns, commodity cycles in metals and fuels are critical. Last year has seen a big bull run in metals and fuel as the global economy regained growth momentum, and due to supply chain issues that disrupted mining and transportation. If the commodity cycle continues to trend up, strong profitability growth can be expected. 

But there are signs that both metals and fuel cycles may be close to a peak and we have seen corrections. For one thing, European growth rates are being downgraded due to the fresh wave of Covid cases. There are also fears China may experience a downturn due to over-leveraged real estate.

Metals and fuel have experienced some corrections over the past month. The global projection is that crude oil and gas will be in oversupply versus estimated demand by Q4, 2021-22. Crude oil is down 5-7 per cent over the past month for various contracts. In natural gas, the benchmark Henry Hub is down 16 per cent over the past month. Even fuel oil, which normally sees strong seasonal demand for heating, is down 9 per cent.

In metals, global prices have also seen corrections. Different categories of steel contracts are down by between 12 per cent and 13.5 per cent over the past month; iron ore is down 22 per cent. Global copper prices are down 2-3 per cent. Aluminium is down 6.3 per cent. Zinc is down 3.4 per cent.  

These are all areas of Vedanta exposure and these commodities gained massively during the past 12 months and peaked in early October in most cases. If this is a reversal in the long-term cycle as opposed to a temporary trend, Vedanta will be negatively impacted.

The stock closed at around Rs 354 on Tuesday, after rising from a low of Rs 290 last Wednesday. This means the current market price has crossed the offer price. That’s likely to lead to some correction, with a floor at Rs 345-348 in the short term.