The glee clubbers of investment banks – chemical sector analysts – became
unwitting rock stars in January when material prices, and some company
valuations, hit new highs. Since then, however, the sector has looked more
like a one-hit wonder. Investors have lost 9 per cent this year compared
with a 2 per cent return on the S&P 500. Some companies, such as Akzo Nobel,
have also written down inventory.

But a successful follow-up may be at hand. This week, Yara, the Norwegian
fertiliser maker, boosted its earnings outlook. Last month, DSM, the Dutch
conglomerate, reported that third-quarter chemical sales had risen
two-fifths over last year.

Prices stabilised
Investors’ fears have revolved around three years of wildly fluctuating prices
that may now have stabilised. Between the trough of 2009 and the beginning
of 2011, the price of the 14 most common chemicals nearly doubled and was
about 15 per cent higher than the normalised price implied by actual levels
of demand and economic growth, according to HSBC estimates. Last month,
actual and normalised moved back into sync.

At the same time, demand is holding up. Of course, volume growth in the latter
half of 2011 has waned to almost zero and may dip into negative territory
early next year. This is partly due to buyers normalising their stock levels
after heavy restocking last year, which pushed European quarterly volume
growth up to 30 per cent, according to Deutsche Bank estimates. That is
about six times higher than the average of the previous decade. US rail
shipments of chemicals have been steady throughout 2011.

So the sell-off in the chemicals sector this year looks overdone. Risks
remain: chemical prices move with oil prices; if Brent falls to $90 a
barrel, chemical prices could fall another 12 per cent, HSBC says.

But global chemical companies are trading at just 11 times forward earnings,
according to Bloomberg data. That is about 15 per cent below the S&P 500.
Investors should not forget how resilient the sector can be in the long term.

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