While the chemical industry still remains exposed to a slew of challenges including weak demand across agricultural and energy markets, slowdown in China and headwinds from a strong greenback, it is gradually gaining strength on the back of sustained healthy momentum in the automotive space and rebounding construction markets. There are a number of reasons to be optimistic about the broader chemical industry for both the short and long haul, which we have highlighted below:
Shale Bounty Driving Chemical Investments
The shale gas revolution in the U.S. has been a huge driving force behind chemical investment on plants and equipment in the country. According to the American Chemistry Council (ACC), abundant shale gas production is driving U.S. chemical exports. New methods of extraction such as horizontal drilling and hydraulic fracturing (or fracking) are boosting shale production, bringing down prices of ethane (derived from shale gas) in the process.
Leveraging the abundant natural gas supply, chemical makers are ratcheting up investment on shale gas-linked projects which is expected to beef up capacity. The shale revolution has incentivized a number of chemical companies to invest billions of dollars for setting up facilities (crackers) in the U.S. to produce ethylene and propylene in a cost-effective way.
Per a recent ACC report, domestic chemical investment related to shale gas has reached as high as $164 billion, more than 60% of which are from firms outside the U.S. Already 264 projects -- many backed by the Federal government -- have been announced by chemical makers to take advantage of ample natural gas supplies with 40% of them already complete or under construction. Such investments are expected to boost capacity and export over the next several years.
Automotive in Top Gear
The automotive sector is witnessing significant momentum. This major chemical end-use market is enjoying the fruits of low gasoline prices. Outlook paints a rosy picture as global automotive sales are expected to rise 2.7% to 89.8 million units in 2016 on the back of strong volume growth in the U.S. and Europe, according to IHS Automotive.
The U.S. auto industry also remains in high gear. U.S. light vehicles (a key end-user market for chemicals) sales hit all-time high of around 17.5 million units in 2015 and are expected to rise further this year, aided by an improving job market, rising personal income, lower fuel prices and attractive financing options. New car and light truck sales are expected to reach to 17.7 million units in 2016 on the back of reduced gasoline prices and low interest rate on auto loans, as per The National Automobile Dealers Association (NADA) estimates.
The Auto industry in Asian countries, especially China, is also expected to thrive over the next several years. As such, chemical makers are expected to gain from higher demand from this important end-market.
Chemical companies continue to shift their focus on attractive, growth markets (driven by megatrends) in an effort to cut their exposure on other businesses that are struggling with weak demand and input costs pressure. Moreover, cost-cutting measures -- including plant closures and headcount reduction -- and productivity improvement actions by chemical companies are expected to yield industry-wide margin improvements. Several chemical makers are also disposing non-core assets as they shift their focus on high-margin businesses.
M&A Activity Gathering Momentum
Chemical makers remain actively focused on mergers and acquisitions to diversify and shore up growth in a still-challenging economic environment. These companies continue to explore growth opportunities in the fast-growing emerging markets, particularly in the lucrative regions of Asia-Pacific and Latin America. The industry saw a pick-up in consolidation activities in 2014 and the momentum continued in 2015.
Albemarle Corp.’s (ALB - Free Report) $6.2 billion buyout of Rockwood Holdings, Inc., Eastman Chemical Company’s (EMN - Free Report) purchase of specialty chemical company Taminco Corp. for $2.8 billion, PPG Industries Inc.’s (PPG - Free Report) acquisition of Mexican paint company Comex, Olin Corp.’s (OLN - Free Report) acquisition of a significant portion of Dow Chemical’s (DOW) chlorine business for $5 billion, Merck KGaA's $17 billion acquisition of Sigma-Aldrich, FMC Corp.’s (FMC) acquisition of Cheminova A/S, CF Industries’ (CF - Free Report) planned acquisition of certain assets of Netherlands-based OCI N.V. for around $8 billion, and the $130 billion proposed mega-merger of Dow Chemical and DuPont (DD) -- the largest chemical deal of all time -- are among the major deals that have taken place in the chemical space in the recent past.
A Rebounding Construction Space
A recovery across housing and commercial construction -- major chemical end-markets -- has been another key positive factor for the chemical industry. After being hit hard in the recession, the construction industry is currently in the process of gradual healing.
The U.S. housing sector saw steady recovery in 2015 backed by stabilizing mortgage rates, improving job market and moderating home prices, and the momentum is expected to continue in 2016. The underlying demand trends in the housing space remain strong and homebuilding is expected to pick up pace in 2016, supported by an encouraging job picture, affordable interest/mortgage rates and an improving economy.
The renewal of long-stalled construction projects and long awaited access to credit from lending institutions has helped invigorate the commercial construction sector. U.S. architecture firm billings continue to rise. The US Architecture Billings Index (ABI), an indicator that offers a glimpse into the future of U.S. non-residential construction spending activity, clocked 50.3 in February 2016 (a reading above 50 indicates an increase in billings).
Moreover, the American Institute of Architects (AIA) expects a healthy growth in non-residential construction spending this year based on strong demand for hotels, office space, manufacturing facilities and amusement and recreation spaces. The AIA sees spending to go up 8.3% in 2016. This bodes well for demand for chemicals in the construction markets.
As you can see from the above-stated factors, there are a few good reasons to be optimistic about the chemical industry. Chemical stocks that are well placed in the current operating backdrop include The Dow Chemical Company, LyondellBasell Industries NV (LYB - Free Report) , Air Products and Chemicals Inc. (APD - Free Report) , Eastman Chemical Company and PPG Industries Inc.
Check out our latest Chemical Industry Outlook here for more on the current state of affairs in this market from an earnings perspective, and how the trend is looking for this important sector.
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