Correction in metals may provide buying opportunity for investors

If demand remains good, investors can purchase at moderate valuations

Investors are reviewing the supply and demand situation in industrial commodities as prices have reacted across the metals space. Iron ore prices have dropped to the lowest levels in 2021, along with a fall in various steel contracts. There were also reactions in other metals such as copper and zinc. Share prices across primary suppliers, such as mining companies and metal producers, were hit as well.
 
The reaction has been sparked by expectations of slowing Chinese demand and global economic growth, if the US Federal Reserve tapers earlier than expected (which will not happen before late 2021 or early 2022). The dollar, too, strengthened in response. Tighter money supply could lead to lower valuations.
 
Metals have been in a strong bull run for months. There were supply chain disruptions caused by global lockdowns affecting mining, shipping and transportation, and metal production. And, China is embarking on a decarbonisation drive, which will mean lower steel production — its steel production was down 8 per cent year-on-year in July, which is a red flag given the low base of July 2020.
 
Copper prices have also dropped to a four-month low. Note, however, that this reaction comes off a multi-year high and there were 30 per cent gains in copper prices between January and July. Aluminium also hit a multi-year high in early August and seems to be plateauing, as are Zinc and tin after a bull run that has lasted over 15 months.
 
Bull runs in industrial metals can often last for several years. This movement has unusual dynamics. Strong global expansion is expected after the losses of the last fiscal due to the pandemic. But the rise in demand is also because of a supply squeeze.
 

Investors seem to be assuming that the supply chain disruptions are largely over and that China’s anti-emission drive coupled with high inflation in the US could lead to a moderation in the global GDP growth rate. On the other hand, the US is implementing a massive infrastructure refurbishment plan, which should ensure strong medium-term demand. India’s Budget also has an infrastructure thrust, which means domestic demand for steel, copper and other industrials should be strong.
 
The last three quarters have seen substantial improvements in the balance sheets of India’s primary metal producers and miners. There have been turnarounds and super-normal profits with a strong sequential rise in both top and bottom lines.
 
In response, corporates have deleveraged to a large degree, paying down a lot of debt. If metal prices do decline to the levels of January-March 2021, or plateau near the current levels, most of India’s metals and mining majors will continue to be highly profitable, extrapolating from the results of the past nine months. But earnings growth may moderate.
 
Is this correction an opportunity? As mentioned above, commodity cycles tend to last a long time. If demand remains good this should be an opportunity to buy.
 
The Nifty Metal Index — a set of 15 stocks — returned over 108 per cent over the last 12 months, while the Nifty returned 46 per cent. In the last 30 days, the metal index has reacted around 1 per cent, while the benchmark has risen by 4.2 per cent. Given the previous rally, the correction may not be over. But it could be a medium- to long-term opportunity.