Recently, Barclays held The Chemical ROC Stars Conference. The purpose of the conference was to get a general feeling of where the chemical sector was heading. Different themes were identified from different companies. The three most noticeable themes were:
1) A sustained housing recovery
2) Shale gas boom
3) Declining commodity prices
Sherwin-Williams Company (NYSE:SHW) has been a pure-play on the housing market recovery. The story of the giant paint maker, as was presented by its CFO Sean Hennessey, is largely predicated on a strengthening U.S. housing and construction market which still has ‘room to run’.
Looking forward, the earnings trajectory for Sherwin-Williams Company (NYSE:SHW) is positive given the company’s outsized leverage to a U.S. Housing recovery. The company decided to buy out the largest Mexican paint maker, COMEX for $2.34 billion, last November.
The COMEX acquisition, when completed, should further cement Sherwin-Williams Company (NYSE:SHW)’s footprint in two key architectural coatings markets (Latin America & North America). The environment for Sherwin-Williams Company (NYSE:SHW)’s stock should continue to be favorable in the second quarter on easing raw material prices (both TiO2 and Propylene) as well as some possible pent-up demand from a cold winter in the Northern portions of the United States. The next catalyst for the stock, barring unexpected housing news or a COMEX close, should be Sherwin-Williams Company (NYSE:SHW)’s Analyst Day in Cleveland on May 23.
Shale gas boom and the ethylene cycle
Chemicals have largely benefited from declining natural gas prices which have resulted as a direct consequence of the shale gas boom. This decline has helped the chemical companies to obtain certain raw materials at extremely cheap prices. Shale gas boom has produced abundant supplies of ethane, a natural gas component that is converted to ethylene with heat and pressure in a process known as cracking. Ethylene, then in turn, is used to produce polymers and plastic bags.
LyondellBasel Industries NV (NYSE:LYB) has been a pure-play on ethylene prices. The declining raw material costs have meant a rise in margins for this company.
Not only declining raw material prices, LyondellBasel Industries NV (NYSE:LYB) remains a core holding over the next three years based on three more reasons: 1) attractive valuations (currently around a 10% Free Cash Flow yield), 2) lower capital allocation risk (most of it is given back to shareholders via share buyback or dividends), 3) productivity gains from management.