At present, the difference in the pricing of cyclical stocks in the A-share market does not lie in the improvement of short-term profits, but in the sustainability of profits. Driven by inflation expectations, overseas cyclical stocks have begun a systematic valuation reshaping. In fact, there is a greater implied difference in the valuation of inflation between the upper and lower reaches of China. In the context of long-term upward inflation, A-share cyclical stocks also have the right to reshape the Valuation: return to PE from Pb.
summary
1 valuation of current cyclical stocks: the difference lies in the long-term view
The valuation of Pb / PE respectively implies the market’s expectations for future profitability (ROE) / growth (g). However, even if the operating data of listed companies / Industrial Enterprises above Designated Size released from January to February show that the performance toughness of cyclical stocks continues, the roe and ROIC of cyclical stocks will continue to break through the historical long-term trend, and the overall valuation of cyclical stocks is still at a historically low level. This actually reflects that the market is willing to price the improvement of short-term net asset profitability (ROE rise) (Pb rise), but is unwilling to make a real value estimation for the sustainability of net profit. Unstoppable inflation is an issue fully discussed in many of our previous reports. This report will focus on how to make a reasonable valuation of upstream resource products and establish a reasonable valuation space under this trend.
2 comparison with overseas: valuation gap caused by inflation / inflation expectation difference
Since the outbreak, the overseas upstream cycle sector has performed significantly better than China. On the one hand, the overseas inflation level is higher than that of China, which makes the profitability of upstream cyclical stocks higher than that of China: the Pb level of overseas upstream cyclical leading stocks has been higher than that of China, and is close to the level in 2007. Behind it is that their roe has reached a new high since 2006, which is higher than that of China. Nevertheless, the roe level of China’s upstream cycle leading stocks is actually close to the level in 2007, but the Pb level has fallen below the level in 2017. On the other hand, the high expectation of overseas inflation makes the PE level of overseas cyclical stocks even higher than that in 2007 / 2011, which is significantly higher than that in China. It is noteworthy that even if the “sell at low PE” is established, the valuation of overseas coal, petroleum and petrochemical, copper, aluminum and iron ore has exceeded the “low PE” in the upward cycle of bulk commodities in 2017. The time behind this is basically related to the continuous upward trend of overseas short-term and long-term inflation expectations. The broad and irresistible upward trend of inflation has become the consensus of overseas investors, which is finally reflected in the rise of the valuation level of resource stocks. In contrast, China’s inflation perception is not strong under the sluggish demand in the early stage. Nevertheless, the coal sector with more observable and concrete contradiction between supply and demand has begun to have a trend of rising valuation, which indicates the opportunity of a wider dimension of the upstream resource sector under the diffusion of inflation cognition.
3 comparison between middle and lower reaches: the valuation has not reflected “inflation kills demand”
Supply driven inflation will redistribute the profits of the industrial chain. If we believe that the stock market finally reflects the pricing of profit expectations, the degree of differentiation of valuation in the industrial chain will provide us with more thinking about valuation. In the stagflation period of the United States in the 1970s, the profits of the industrial chain continued to concentrate upstream: the profits of the upstream industry accounted for 38.2% at the highest level, and the market value accounted for 36.5% at the highest level. On the whole, the PE level in the upstream of the United States converged with that in the middle and lower reaches in 1970s, and even in 1977, the PE level in the upstream was higher than that in the middle and lower reaches. From the perspective of China, the current valuation difference between the upstream and the middle and lower reaches is far from the level of “stagflation like”: the Pb valuation difference between them was the highest of 4.29 / – 0.3 / – 0.71 in 2007 / 2011 / 2018, and is only -1.71 at present; After the publication of the 2007 / 2011 / 2017 annual report, the PE valuation difference was -4.49 / – 9.80 / – 3.17 respectively. At present, it is only -17.79 If the end of inflation is that high prices “kill” downstream demand and are eventually eaten back, then the relative valuation and pricing of middle and downstream enterprises with concentrated growth stocks implies that they are still optimistic about future profit growth, and the pricing of current profit is far less than the supply side reform in 2017 and the stagflation like period in 2011. If investors price downstream correctly, it is still far away to “kill demand”, and the profit sustainability of upstream enterprises will be further confirmed.
4 real cycle: return from Pb to PE
The cycle still exists. In the cycle bull market in 2007, due to the great imagination of demand space and the gap between supply and demand, the commodity is under the logic of marginal demand pricing. PE is a reasonable valuation method for cycle stocks. After 2011, the overall overcapacity of upstream resources, and the marginal supply cost determines that the product price is more reasonable, so it is reasonable to use PB pricing. At present, the change of capital expenditure brought by “carbon neutralization” has reversed the capacity pattern of cyclical industries again, the price is determined by marginal demand again, and PE pricing is returning.
5 upstream cyclical stocks have a valuation space of [18%, 43%]
From the perspective of PE valuation, after considering the current sharp decline in macroeconomic growth and the sharp decline in the contribution of resource products caused by the change of economic structure, the PE level implied in the current volume and price expectation should correspond to 15.5 times of PE, which still has about 43% evaluation space compared with the current actual PE level. If investors believe that the current stagflation is the same as that in the past decade, and there is no major pricing error in the middle and lower reaches of the sector, the corresponding uplift space of Pb should also be 31%. If investors only set prices and improve their profitability in the current period, there is also about 18% valuation space. Overall, the overall valuation space range of upstream cyclical stocks is [18%, 43%]. The real cycle has just begun.
Risk warning: measurement error; History does not represent the future; Inflation fell short of expectations.
report body
\u3000\u3000 1. Valuation of current cyclical stocks: pricing differences lie in the persistence of profits and the long-term trend of upward movement of price center
The valuation of Pb / PE itself implies the market’s expectation of profitability (ROE) / growth (g). For a sector, if the current outlook is very high, the Pb level rises, but the PE valuation has begun to peak and fall, which means that the market does not believe that the current high outlook of the sector can continue in the future, implying an obvious growth decline or even negative expectation. This phenomenon is particularly evident in cyclical stocks: even if the operating data of listed companies / Industrial Enterprises above Designated Size released from January to February show that the performance toughness of cyclical stocks continues, even if the roe and ROIC of cyclical stocks will continue to break through the historical long-term trend, cyclical stocks reflect more the rise of Pb level, but the PE level continues to decline.
The difference in the market never lies in whether the current cyclical stocks are highly profitable, but in the sustainability of profits.
From the perspective of micro listed companies [1], even when the Q1 high base in 2021 and the Q1 economy in 2022 are still in the stage of stabilization and recovery, the profit growth rate of the middle and upper reaches cycle sector represented by industrial metals (copper, aluminum) and coal from January to February 2022 is still generally above 100%, continuing the strong toughness since the fourth quarter of 2021. From a more macro perspective of Industrial Enterprises above Designated Size, the above conclusions can also be verified: from January to February 2022, the industries with the highest year-on-year growth rate of total profits of Industrial Enterprises above designated size are mainly concentrated in the upstream cycle. The top three are coal mining and washing (+ 158.36%), oil and gas mining (+ 157.39%) and non-ferrous metal smelting and rolling processing (+ 63.58%). From a longer-term perspective, the expected roe / ROIC of 2022 cycle will continue to break through the annualized roe / ROIC upward, which means that the long-term downward profitability trend of previous cycles will usher in an inflection point, which has not been realized in the supply side reform in 20162017.
[1] please refer to the report “myth from January to February: economic data vs. performance forecast of listed companies” released on March 18
In contrast, the current overall valuation of cyclical stocks has fallen back to the comparable level in the early stage of economic stabilization and recovery in history, lower than that in 2017. The valuation level of the non-ferrous metal industry at the beginning of the year and at the end of the year in the middle of the year and the year in the middle of the year in 2012 is similar to that of the oil industry at the beginning of the year and at the end of the year in the middle of the year in the middle of the year in 2016, no matter what the valuation level of the non-ferrous metal industry at the beginning of the year and the middle of the year in 2012 is. An interesting phenomenon is that before 2016, the PE and Pb of cyclical stocks basically have the same trend, while after 2016, there will be a combination of Pb rise and PE sharp decline in some stages, such as late October 2016 to early April 2017 and September 2020 to September 2021. Behind this is the fact that the market is willing to price the improvement of net asset profitability (rise in Roe) (rise in PB), but it often gives a negative evaluation on the sustainability of net profit growth (rise in G) (downward PE). It can also be seen from the dynamic historical quantile of valuation that the dynamic historical quantile of cyclical style / upstream industry index PE TTM is almost close to the lowest level in history; Although their Pb is higher than the pre epidemic level, the quantile is still lower than 40%.
[2] the cycle style index here covers a wide range of industries, including some middle and downstream manufacturing industries.
Further, for the leading stocks in the mid and upper cycle industry (the top three stocks in the industry with TTM revenue), the improvement of their profitability has been partially reflected in the repair of Pb. For example, the historical quantile of Pb represented by oilfield services, aluminum, special steel and thermal coal leading stocks has exceeded 50%. Therefore, some investors will conclude that they are not so cheap based on the past investment framework. But in fact, from the perspective of PE, these stocks rarely exceed the historical 50% quantile, which coincides with the fact that the market is more willing to price from the perspective of Pb and improve profitability.
\u3000\u3000 2. Comparison overseas: Valuation differentiation behind inflation expectation differences
If we select the typical representative listed companies in the upstream cycle industry outside China (comprehensively considering the ranking of revenue and market value), we will find that the overseas performance has been significantly better than that in China since the emergence of the epidemic.
Reflected in the differences in valuation levels, we will find that China’s pricing of cyclical stocks is not sufficient, which does not really reflect the upward movement of the long-term inflation center demonstrated in many special reports.
From the perspective of Pb, we can find that the Pb level of overseas upstream cycle leading stocks has been higher than that of China, and is close to the level in 2007. The reason is that the roe of overseas upstream cycle leading stocks has reached a new high since 2006, which is higher than that of China. Nevertheless, the roe level of China’s upstream cycle leading stocks is actually close to the level in 2007, but the Pb level has fallen below the level in 2017.
From the comparison of Pb valuation of representative stocks, the same is true: the absolute value level of Pb of overseas representative leading enterprises in the subdivided industry is basically higher than that in China; Whether compared with the comparable Pb level before the epidemic or the lowest Pb level during the epidemic, the rise of Pb overseas is significantly higher than that in China.
The above comparison means that even if the Chinese market pays more attention to the repair of Pb valuation of cyclical stocks, the “attention” of the Chinese market is slightly insufficient compared with the overseas pricing degree for the improvement of the profitability of cyclical stocks. Of course, we should also see some positive changes emerging: Taking Yankuang energy and Henan Shenhuo Coal&Power Co.Ltd(000933) as examples, the valuation gap between them and their overseas counterparts is actually narrowing.
From the perspective of PE, we will find that the level of PE of overseas upstream cycle leading stocks has been higher than that of China, and higher than that of 2007 / 2011. The reason is that the growth rate of TTM of net profit attributable to parent of overseas upstream cycle leading stocks has also reached a new high since 2006, higher than that of China. Nevertheless, the growth rate of TTM of net profit attributable to parent of China’s upstream cycle leading stocks has actually been close to the highest level since 2006, but the level of PE is even close to the lowest level after the 2008 financial crisis.
From the comparison of PE valuation of representative stocks, the absolute PE value level of overseas representative leading enterprises in the subdivided industry is basically higher than that in China. Among them, overseas coal, petroleum and petrochemical, copper, aluminum and iron ore are basically higher than the pre epidemic level, but only copper and aluminum are higher than the median level since 2016. In addition to the obvious rise in PE valuation of coal in China, PE in other industries is far from returning to the pre epidemic level.
The above comparison means that under the background of high inflation expectations, foreign countries have begun to price the sustainability of earnings growth of cycle leading stocks: the valuation of some overseas upstream cycle leading stocks is still higher than the lowest PE level corresponding to the last round of earnings peak after the announcement of 2021 results. If we calculate the share price according to the current rise of PE compared with that at that time, we will find that the date of the comparable PE level of the company’s share price represented by ExxonMobil, Chevron, Alcoa and Southern Copper before breaking through the epidemic is concentrated from Q4 to now in 2021, which is basically consistent with the time period when the US inflation expectation and Google inflation search index continue to rise. Overseas investors are forming a consensus on the upward movement of widespread inflation and the upward movement of real asset prices. In contrast, as China’s inflation pressure is much smaller than overseas, Chinese investors’ perception of the upward movement of the long-term inflation center has just begun to change. Chinese investors start with coal, which has a better understanding of the current supply and demand pattern and is easier to measure the relationship between supply and demand, and revalue and price the upward movement of its future price center.
\u3000\u3000 3. Comparison between middle and lower reaches: the valuation difference does not imply the concentration of profits upstream
As we mentioned in “until the end of inflation”, there is another perspective to discuss the valuation of cyclical stocks, that is, under the background of the upward movement of the long-term inflation center, the profits of enterprises in the whole society are continuously concentrated upstream. If the Pb / PE valuation of the middle and lower reaches is very different from that of the upper reaches, it means that the market still has high expectations for the profitability (ROE) / growth (g) of the middle and lower reaches, This is obviously inconsistent with the distribution of profits to the upstream.
The valuation difference of Pb and PE between upstream and middle and downstream will eventually converge.
The above phenomenon occurred in the stagflation period of the United States in the 1970s: from the change of the net profit proportion of Listed Companies in the United States in the 1970s, it basically follows the trend of concentration from the middle and lower reaches to the upper reaches. The profit proportion of the upstream industry (energy + raw materials) can reach 38.2% when the profit proportion is the highest, and the market value proportion is 36.5% when the market value proportion is the highest, which is basically matched.
From the differentiation of Pb / PE valuation between the upstream and the middle and downstream, on the whole, the Pb / PE level in the upstream and the middle and downstream of the United States was in a convergent state in 1970s. In 1979, the Pb level in the upstream was higher than that in the downstream, and in 19771978, the PE level in the upstream was higher than that in the middle and downstream.
From the perspective of China, in the “stagflation like” period (20072008, 20102011, 20172018), the proportion of upstream industry profits will also rise significantly, which will also be accompanied by the rise of market value. If we use the market value ratio / profit ratio (excluding the disturbance caused by IPO) to measure the pricing degree of the market for profit distribution, the ratio is only about 0.7 in 2021, compared with 1.0/1.1/1.5 in 2007 / 2011 / 2017. There is still a large gap at present. From the perspective of industrial enterprises, the proportion of upstream profits in 2021 is as high as 18.65%, which is far higher than that in 2017.
From the perspective of the difference in future profitability and growth implied by the Pb / PE valuation between the upper and middle and lower reaches of China, it is far from reaching the level of stagflation like period at present: the Pb valuation difference between the upper and middle and lower reaches can reach 4.29 / – 0.3 / – 0.71 at the peak in 2007 / 2011 / 2017, while at present it is only -1.71; After the publication of the annual report of 2007 / 2011 / 2017 (i.e. the valuation difference on April 30 of the next year), the PE valuation difference between upstream, middle and downstream is -4.49 / -9.80 / -3.17 respectively, while it is only -17.79 at present This means that the current market expectations for profitability / growth in the middle and lower reaches are still far better than those in the upper reaches. The above expectations may be broken in the future as inflation picks up, resulting in a significant convergence of valuation differences between the two. This has been reflected in US stocks: since the end of 2021, with the rising inflation expectations, the gap between Pb in the upper reaches of US stocks and Pb in the middle and lower reaches has converged significantly.
\u3000\u3000 4. Can we go back to 2007: Discussion on PE valuation
Before 2010, cyclical stocks can significantly outperform commodities, such as 2007 and 20092010; However, after 2010, cyclical stocks were far worse than commodities. Even in the period of supply side reform and economic recovery from 2016 to 2017, cyclical stocks also lost significantly. Since September 2021, cyclical stocks have also started to lose significantly to commodities.
We have previously discussed the relationship between cyclical stocks and cyclical commodities in several reports: stock price is the pricing of future commodity price points (we are concerned about the upward movement of commodity price center). Only when investors in the market see that the long-term price center of cyclical commodities is confirmed to move upward, they are willing to give a higher valuation of the profitability of the production capacity owned by cyclical stocks.
At present, the market is also facing such a choice, which is also the essence of why the current pricing of Pb is more sufficient than PE mentioned above: Pb pricing more marginal supply cost, while PE pricing more marginal demand. Behind the sharp outperformance of upstream cyclical stocks over commodities in 20062007 is the expectation of simultaneous growth of volume and price in the future. During that period, the gap between supply and demand caused by rapid economic growth always existed, so the market carried out demand driven PE valuation and pricing. After 2011, due to the slowdown of demand, the market is more based on Pb valuation and pricing, and the short-term profit is improved. At present, the growth of volume is obviously limited, but the growth expectation of price has exceeded that at that time: as we have previously demonstrated long-term factors such as “green inflation”, “population reversal” and “rebalancing between physical assets and financial assets”, the upward movement of the pivot in long-term inflation will be inevitable. Under the above-mentioned supply cycle, the pricing of PE stocks will become weaker and weaker, and PE stocks may move from the marginal supply cycle to the valuation cycle.
Therefore, according to the derivation relationship between volume and price, net interest rate and profit growth, we can take the PE valuation level from 2005 to 2007 as the anchor and convert it accordingly with the current actual economic growth + inflation expectation, so as to obtain the acceptable level of PE valuation of the current upstream traditional cycle industry.
According to the derivation, we can get: if the cost and quantity remain unchanged and only the price changes, the profit growth rate G = price rise / net interest rate; If the cost remains unchanged and the allowable quantity and price change, the profit growth rate G = T2 (1-t1) / [T1 (1-t2)] (Q2 / Q1), where T1 is the current net interest rate, T2 is the next period net interest rate, Q1 is the current output and Q2 is the next period output. Therefore, we will find that although the absolute value and rising range of the net interest rate of the upstream cycle industry in the third quarter of 2021 are close to the level in 2007, the profit growth rate G is lower than that at that time, because there is a huge gap in the growth of volume.
According to g = T2 (1-t1) / [T1 (1-t2)] (Q2 / Q1), assuming that T1 is in 2007 and T2 is in 2021, the valuation difference caused by the difference between the current volume and price and 2007 should be: the PE level implied by the current volume and price expectation should be equivalent to about 39% of PE in 2007 (g at g / T1 at T2). In 2007, the PE of the upstream cycle industry (coal + petroleum and petrochemical + copper and aluminum in non-ferrous metals + steel) was 39.75x, so the current PE should be about 15.50x, 43% higher than the current actual PE level of 10.80x.
In terms of industry segments:
First, in fact, we can use the current level of net interest rate (a), the average level of net interest rate during 20032007 (b), the annualized growth of corresponding commodity consumption in 20032007 (c) and the highest PE (d) in 2007 to calculate the annualized growth of volume from 2021 to 2025 implied by dynamic PE (E) in 2022:
According to the above formula, we calculated the growth expectation of coal, petroleum and petrochemical, copper, aluminum and steel in the next five years implied by the current valuation, and found that the growth pressure required for them is actually very small.
[3] here ≈ is because when the gap between T2 and T1 is very small, T2 (1-t1) / [T1 (1-t2)] ≈ T2 / T1.
Second, if we convert the volume growth of each sub industry in the next five years from a top-down perspective according to the growth contribution of each sub industry in the macro economy, we find that their desirable valuation level is still much higher than the current dynamic valuation level, and the valuation space is still considerable.
[4] due to the availability of data, the net interest rate of rolling calculation starts from 2000, so the calculation range as of 2003 is less than 5 years.
\u3000\u3000 5. Valuation space of cyclical stocks under different dimensions
Based on the above analysis, we can get the expected valuation level and corresponding valuation space of upstream cyclical stocks under different dimensions:
Based on Roe’s breakthrough in the historical long-term trend (especially some leading stocks are close to the level in 2007), the pricing of upstream cyclical stocks Pb should at least exceed the highest level in 20162017 (1.85x), which is about 18% higher than the actual Pb level of 1.57x in 202204-01.
Based on the trend of profit concentration to the upstream, the valuation gap between the upstream and the middle and downstream should at least converge to the level in 2017. If it is assumed that 50% of the valuation convergence is caused by the rise of the upstream valuation, there is still about 31% room for the Pb valuation level of the upstream cyclical stocks from the perspective of Pb; From the perspective of PE, there is still about 52% room for the PE valuation level of current cyclical stocks (of course, this is based on the fact that the valuation of middle and downstream enterprises is no longer falling rapidly, and the perspective of PE is not included in the final conclusion).
Based on the calculation of the impact of volume and price on profit growth, the PE level implied by the current volume and price expectation should be about 15.50x, 43% higher than the current actual PE level of 10.80x. Among them: the current valuation has relatively little pressure on the future growth of coal, copper, aluminum, petroleum, petrochemical and steel; If converted according to the volume and net interest rate of the above industries compared with the level in 20032007, their current dynamic PE valuation level still has great room for improvement compared with the acceptable PE valuation level.
Therefore, based on different dimensions, the valuation space range of future cyclical stocks should fall between [18% and 43%], which will depend on the continuous improvement of the profitability of cyclical stocks and the verification of continuous profit growth under the background of the upward movement of the long-term inflation center. Of course, the above fundamental factors are not the focus of our discussion in this report. The dynamic interpretation of the fundamentals of inflation should be based on our previous series of reports. This report aims to find the valuation space of upstream resource stocks for investors. Our conclusion is that investors with any fundamental view should at least find different degrees of absolute returns on upstream resource stocks, at least the investment value compared with the relative returns of middle and downstream growth stocks.
\u3000\u3000 6. Risk tips
1) measurement error. There may be some errors in the calculation of relevant data in this paper, and the calculation method of valuation space may also have some limitations.
2) history does not represent the future. What happened in history does not mean that it will happen in the future. The deduction based on the law of history will not be realized in the future.
3) inflation is lower than expected. One of the core assumptions of the valuation rise of cyclical stocks in upstream industries is the upward movement of the long-term inflation center. If inflation is lower than expected, the basis for value revaluation will no longer be established.
