We maintain our OVERWEIGHT rating on the sector, anticipating stable prices for both ferrous and non-ferrous metals due to supply constraints from stricter environmental regulations and Western sanctions against Russian producers. The demand for non-ferrous metals will be driven by investment in renewable energy (RE) projects and electric vehicle (EV) production globally, while locally, the demand for ferrous metals and their value-added products are well supported by the roll-out of major local infrastructure projects. We also see a bright spot in water pipes on the back of a revival of local water projects. Our sector top picks are PMETAL (OP; TP: RM6.35) and ENGTEX (OP; TP: RM1.41).

Higher aluminium prices. We project a higher average aluminium price of USD2,550/MT in CY24 vs. USD2,255/MT in CY23, while slightly lower average FeSi and SiMn prices of USD1,300/MT and USD920/MT in CY24 vs. USD1,437/MT and USD962/MT in CY23, respectively.

Aluminium prices have been on an uptrend since the beginning of the year on surprise strong consumption in China during the early part of the year, while globally, the demand for aluminium has been spurred by RE projects and rising EV production. We are concerned over the sustainability of demand in China in the absence of a strong revival of infrastructure and property projects. Meanwhile, the closure of fossil fuel-powered smelters (especially coal) on rising environmental awareness coupled with Western sanctions against Russian aluminium producers will continue to cap the supply.

However, we remain cautious on prices of steel and its inputs FeSi and SiMn due to the weak steel sector in China, similarly, in the absence of a strong revival of infrastructure and property projects. Nonetheless, the earnings growth for FeSi and SiMn alloy producer OMH (OP; TP: RM1.80) in FY24 will be driven by higher production volumes. Meanwhile, the local demand for steel and its value-added products such as cable support systems should improve along with the roll-out of mega public infrastructure projects such as the Mutiara Line of Penang LRT, Kuching ART and MRT3. ULICORP (OP; TP: RM2.38) is the dominant local producer of cable support systems widely used in new data centres, warehouses, hospitals and infrastructure projects.

Water pipe makers are poised for an exciting time ahead as water operators kick start their long-overdue water projects backed by stronger finances following the recent water tariff hikes including: (i) non-revenue water (NRW) reduction initiatives or pipe replacement and (ii) the construction or upgrading of water treatment plants (including the consolidation of old and small plants to optimize cost). Selangor state water operator Air Selangor, for instance, has set a target to reduce NRW from 36% in 2021 to 15% by 2049. We understand that water operators are currently identifying old pipes to be replaced and working out the cost to be submitted to the Ministry of Finance (MOF) for approval. According to Malaysian Water Association, water operators have thus far submitted proposals to the MOF for water projects worth ~RM4b. In addition, there are plans to raise water tariffs again within the next two years.

Our sector top picks are:

1. PMETAL given: (i) its structural cost advantage over international peers given its access to low-cost hydro-power secured under four long-term PPA contracts ending between 2034 and 2040, (ii) its strong secured alumina supply with stakes in two alumina miners, i.e., Japan Alumina Associate (40%) and PT Bintan (25%) which supply 80% of its requirements, and (iii) its green investment appeal as a clean energy source producer.

2. ENGTEX given: (i) the huge potential in the water pipe replacement market locally, (ii) its dominant market position in both large-diameter mild steel (MS) pipes and ductile iron (DI) pipes, and (iii) its strong earnings visibility underpinned by significant order backlogs and a strong pipeline of new projects

Source: Kenanga Research - 28 Jun 2024