The chemical industry continues to rise in the capital market. Our latest capital market update shows that some key value driven trends still exist.
Despite the tepid, the global economy continues to expand, making the chemical industry achieve good sales and revenue in the past year. Historically, significant changes in crude oil prices have had an impact on the profitability of the chemical industry, but since last summer, with the fall in oil prices, these events have continued.
How do these developments translate into capital market performance? This article first presents the results of our latest analysis, describing the sustained strong performance of different aspects of chemicals. Second, it looks at the drivers of this performance and their impact on the outlook for the industry.
Our analysis shows that the chemical industry continues to perform well with the highest total shareholder return (TRS) of all industries.
Chemicals are also the value chain of TRS winners, based on performance since 2000: the chemical sector registers TRS performance higher than most upstream industries providing raw materials, such as oil and gas and minerals, and downstream industries using chemicals, such as automobiles, consumer goods and pharmaceuticals.
It’s too early to see the full impact of falling oil prices on TRS performance in the chemical industry. Our analysis shows that after a sharp decline in the second half of 2014, the TRS performance of the commodity chemicals companies we analyzed has rebounded slightly in the past six months. This decline reflects a more pessimistic outlook from investors, as the price gap between naphthalene and ethane narrowed during this period as oil prices fell. There are two factors behind the recent rebound in TRS performance. First, some oil-based commodity chemical producers seem to be able to maintain sales prices in specific end markets, which expands their profit margins. Second, the sharp rise in crude oil prices this spring (up about 30% at the end of June compared with the low in January 2015), alleviating the expected negative impact of the narrowing of naphthalene ethane price gap on the profits of many petrochemical enterprises using ethane raw materials. (our sample does not include the chemical subsidiaries of oil companies, the world’s largest petrochemical conglomerate, because they are not publicly listed. However, their published results show that they also feel the impact of market dynamics for these chemicals. )
Both commodities and specialty products have dominated TRS performance over the past 15 years, depending on the time period analyzed. In the past three years, specialty chemicals have been the best performing chemicals in TRS performance (Table 3). This is largely the result of a substantial increase in the return on investment capital (ROIC). For most of the time since 2000, however, commodity prices have been slightly ahead. Looking back at the end of 2008, just after the financial crisis, the performance of commodities was far ahead, two percentage points higher than professional stocks, while professional stocks and commodity stocks were slightly higher than diversified stocks. From 2000 to 2015, commodities and specialty chemicals companies showed similar performance, with commodities only ranking at the top by one percentage point; both companies once again led diversified chemical companies.
The long-term TRS performance of professional stocks and commodity stocks is similar, indicating that investors get returns in both stocks, which is contrary to the traditional view that professional stocks are more attractive for a long time. However, our analysis shows that the performance drivers of each industry are different. The ability of specialty chemicals companies to continuously improve ROIC has stimulated the valuation of these companies in the past three years. Traditionally, expectations related to the chemical cycle of commodities have been driving valuations in the industry, but over the past three years they have become more moderate. At the same time, the ROIC of commodities and diversified companies declined during this period, causing a slight drag on performance.