The trade tussle between the United Sates and China weighed heavily on industries in the basic materials space last year, with the chemical industry being no exception. The damaging effects of the trade war between the world’s two biggest economies were evident from the chemical industry’s lackluster performance in 2018.
The Zacks Chemicals Diversified industry, which consists of manufacturers of basic chemicals, plastics, specialty chemicals and agricultural chemicals, significantly underperformed the broader market in 2018. The industry tumbled 26.3% compared with the Zacks S&P 500 Composite’s 6.1% decline.
Investors’ confidence on the chemical industry’s prospects has taken a beating due the trade conflict. The Trump administration slapped punitive tariffs on $250 billion worth of Chinese products last year while China has imposed retaliatory tariffs on $110 billion in U.S. goods. China’s tariffs on American products include a wide range of petrochemicals, specialty chemicals and plastics.
China is one of the biggest export markets for U.S. chemicals and thus, leaves the American chemical industry heavily exposed to Beijing’s retaliatory trade actions. The tariffs have created an uncertain demand environment for U.S. chemical products in this major market.
Trade tensions have clouded the overall demand outlook for chemicals. Softer demand from the automotive space of late is a concern for chemical makers. Notably, the trade friction has led to a slowdown in demand in China in this major chemical end-use market.
What’s Next for the Industry?
While trade tensions pose a risk, the chemical industry is poised for an upswing in 2019. In particular, the U.S. chemical industry is set for a smooth run this year on the back of strength across major end-use markets, higher industrial activities and gains in business investment.
The outlook for the American chemical industry paints an encouraging picture. The American Chemistry Council (“ACC”), a leading industry trade group, expects national chemical production (excluding pharmaceuticals) to rise 3.6% in 2019. The growth is expected to be spurred by gains in manufacturing and export and sustained demand across light vehicles and housing markets.
Meanwhile, the European Chemical Industry Council (“CEFIC”) envisions the European chemical industry to recover in 2019 from a decline in demand from the automotive industry in 2018. The CEFIC expects chemical output in the European Union to rise 0.5% year over year in 2019, which would mark a rebound from a 0.5% decline 2018. While the CEFIC sees demand from automotive, agricultural and construction sectors to improve modestly in 2019, it expects trade tensions between the United States, China and Europe to impact the industry’s performance.
Expectations for Q4
Per the Zacks Industry classification, the chemical industry is under the broader Basic Materials sector. Earnings growth for the Basic Materials sector in the third quarter was second only to the energy sector. Overall earnings for the sector climbed 42% while revenues spiked 16.5%.
However, the Basic Materials sector is expected to lose momentum in the fourth quarter as earnings for the sector are projected to rise 2.9% on 4.8% higher revenues, per the latest Earnings Outlook.
Chemical companies are expected to face some seasonal slowdown in demand in the December quarter. Chemical makers also face headwinds from a spike in costs of raw materials as a result of short supply partly due to production outages and plant shutdowns. China’s environmental crackdown has led to the tightening in the supply of certain key raw materials as a result of plant closures. The disruption in the supply chain has pushed up the prices of these inputs in a high demand environment. Some of the chemical companies are also exposed to challenges from elevated energy and logistics costs.
Nevertheless, the companies should be able to offset the concerns with strategic measures, including cost-cutting and productivity improvement and actions to raise selling prices. A number of companies including Eastman Chemical Company EMN, Celanese Corporation CE and Ashland Global Holdings Inc. ASH are taking aggressive price increase actions in the wake of raw material cost inflation. These actions should spur margin improvement in the fourth quarter.
Moreover, chemical companies remain actively focused on mergers and acquisitions to diversify and drive growth. Synergies from acquisitions should also lend support to earnings in the fourth quarter. President Donald Trump’s business-friendly tax reform also contributed to the performance of U.S. chemical makers in the third quarter and would continue to act as a tailwind in the fourth.
Picking the Winning Stocks
Companies in the chemical space face headwinds from raw materials cost inflation and demand weakness. Nevertheless, strategic measures including productivity improvement and price hike actions are likely to drive the performance of chemical makers in the fourth quarter.
As such, a sneak peek at the space for some potential winners backed by a solid Zacks Rank could be a great idea for investors looking to gain from the fourth-quarter earnings season.
With the help of the Zacks Stock Screener, we have shortlisted chemical stocks that have an estimated year over year earnings per share (EPS) growth of 10% or more for the to-be-reported quarter. Further, these stocks carry a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.
3 Chemical Stocks to Buy
Below we discuss three chemical stocks that are worth investing in before the fourth-quarter earnings season hits full throttle.
Ingevity Corporation NGVT
South Carolina-based Ingevity sports a Zacks Rank #1. The company has an expected EPS growth of 73.3% for the fourth quarter. The company also delivered positive earnings surprise in each of the trailing four quarters, with an average beat of 19.8%.
Ferro Corporation FOE
Our next pick is Ohio-based Ferro carrying a Zacks Rank #2. It has an expected EPS growth of 37.9% for the fourth quarter. Earnings estimates for the fourth quarter have been revised 2.6% upward over the last 60 days. Moreover, the company delivered positive earnings surprise in three of the trailing four quarters, with an average positive surprise of 0.3%.
Quaker Chemical Corporation KWR
Pennsylvania-based Quaker Chemical carries a Zacks Rank #2. The company has an expected EPS growth of 12.6% for the fourth quarter. Earnings estimates for the fourth quarter have been revised 4.4% upward over the last 60 days. Moreover, the company delivered positive earnings surprise in each of the trailing four quarters, with an average positive surprise of roughly 5%.
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Ashland Global Holdings Inc. (ASH) : Free Stock Analysis Report
Celanese Corporation (CE) : Free Stock Analysis Report
Eastman Chemical Company (EMN) : Free Stock Analysis Report
Ingevity Corporation (NGVT) : Free Stock Analysis Report
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Quaker Chemical Corporation (KWR) : Free Stock Analysis Report
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