The fundamentals of the mainland's cement sector will likely continue to improve in the second half of 2011 and 2012 as capacity is reduced while demand increases.
However, for the time being, cement makers are contending with a weakening macroeconomic environment that is taking some of the air out of the sector's growth momentum, prompting a slew of downward valuation adjustments.
Demand for cement in the country remains robust, underpinned by stronger-than-expected investment in the property sector as well as generous investment in water conservation projects.
Investment in the property sector accelerated 34.3 percent year-to-date in April from 34.1 percent year-to-date (YTD) in March despite a fall in property transaction volume nationwide, thanks to stronger-than-expected investment in economic (low-cost) housing projects. According to the Ministry of Construction's estimates, by October this year construction will commence on 100 percent of a targeted 10 million economic housing units, implying property investment is likely to show strong growth of 30 percent YTD in the second quarter and third quarter of this year.
Meanwhile, a surge in investment in water conservation projects will also boost demand for cement in the second half of this year.
Amid the robust demand, cement prices continue to increase. In eastern provinces, cement prices have spiked on average 40-60 percent year-on-year (YoY) as of mid-May. In central and northern provinces, prices have risen by 20-40 percent YoY over the same period.
Moreover, the worsening electricity shortage in the country will likely benefit cement players in Hunan, Jiangxi, Zhejiang and Guangdong provinces by further boosting cement prices in these regional markets late in the second quarter and third quarter, as power shortages curb production growth.
Cement production picked up in March 2011 and grew 19.5 percent YTD by April 2011. However, production growth is expected to moderate to around 10 percent YoY in May and June, resulting in cement production growth of 15 percent YTD in the first half of 2011.
Another positive factor for the big players in the sector is expected further consolidation in the industry. The Ministry of Industry and Information Technology (MIIT) plans to close 7 percent of the country's total cement capacity (133 million tons) this year, which will further entrench the dominance of the current leading players and boost their pricing power in the second half of this year and into 2012.
Due to policy constraints on new cement projects, fixed asset investment (FAI) within the cement sector declined 20 percent YTD in April, making it difficult for new entrants to the sector.
Against this backdrop, the recent downward adjustments in the share prices of cement makers could be an entry opportunity. Recent price dips in the cement sector also reflect the deteriorating macro environment. But this is temporary. Further downward adjustments should be limited based on the current 2011 sector valuation price-to-earnings ratio of 11.5 times.
The author is an associate director and economist at CCB International Securities Ltd. The opinions expressed here are entirely his own.