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Equity Bottom-Up

<div class="content-highlight"><h2>Undervalued Iluka to benefit from industry supply challenges and sustained favourable prices.</h2></div><hr><p><a href="https://www.smartkarma.com/entities/10105" target="_blank" data-smartkarma-citation="entities:10105:1">Iluka Resources (ILU AU)</a>'s share price is down almost 30% since May 2018 highs above AUD 12 per share. The sell-off reflects concerns that prices of zircon and titanium dioxide feedstocks will decline and came despite a modest rise in the S&amp;P/ASX 200 Resources index. We generally see global metals and mining firms as overvalued, but not Iluka. The market is too pessimistic on the outlook for prices. Demand growth for zircon and titanium dioxide feedstocks is only likely to be steady, but supply constraints underpin our optimism. Producing mines are depleting and grades are in decline. Also, the bench of replacement deposits are generally of lower quality and prices will need to remain favourable to incentivise supply.</p><p>Cost increases and disruptions at Sierra Rutile also weigh on investor sentiment and see concerns Iluka's planned expansions in Sierra Leone will destroy value, but Iluka has a strong operational track record. It's also unreasonable to extrapolate recent issues at an ageing mine, now finished, to new capacity being built. With the shares at more than a 20% discount to our AUD 11 fair value estimate, we think shareholders are being compensated for the risk.</p><hr><h2>Key Takeaways</h2><ul>
<li>The zircon and rutile price recovery lagged other commodities and has further to go. Both are late-cycle commodities. Zircon is primarily used for tiles, ceramics, and porcelainware. About 90% of titanium feedstocks are used to make pigments for paint, plastics, and paper.</li>
<li>The market is too pessimistic on the outlook for zircon and rutile prices. Depletion of higher-grade orebodies and a weaker bench of replacements mean prices should sustain around current levels.</li>
<li>Industry dynamics are favourable and likely to support attractive returns. The three largest producers of zircon and high grade titanium dioxide feedstocks account for about 70% of supply global.</li>
<li>Iluka's medium-term developments should underpin modest volume growth. The firm's inventory of undeveloped projects and execution record means it's unlikely production will fall longer-term. The market underestimates the value of the Mining Area C iron ore royalty. It brings a stable and growing source of cash flow with no costs. <a href="https://www.smartkarma.com/entities/147" target="_blank" data-smartkarma-citation="entities:147:1">Bhp Billiton (BHP AU)</a> is nearly tripling output. This low-risk cash flow is worth around AUD 3 per share, more than one-quarter of our AUD 11 per share fair value estimate.</li>
</ul>

Undervalued Iluka to benefit from industry supply challenges and sustained favourable prices.Iluka Resources (ILU AU)'s share price is down almost 30% since May 2018 highs above AUD 12 per share. The sell-off reflects concerns that prices of zircon and titanium dioxide feedstocks will decline and came despite a modest rise in the S&amp;P/ASX 200 Resources index. We generally see global metals and mining firms as overvalued, but not Iluka. The market is too pessimistic on the outlook for prices. Demand growth for zircon and titanium dioxide feedstocks is only likely to be steady, but supply constraints underpin our optimism. Producing mines are depleting and grades are in decline. Also, the bench of replacement deposits are generally of lower quality and prices will need to remain favourable to incentivise supply.Cost increases and disruptions at Sierra Rutile also weigh on investor sentiment and see concerns Iluka's planned expansions in Sierra Leone will destroy value, but Iluka has a strong operational track record. It's also unreasonable to extrapolate recent issues at an ageing mine, now finished, to new capacity being built. With the shares at more than a 20% discount to our AUD 11 fair value estimate, we think shareholders are being compensated for the risk.Key Takeaways
The zircon and rutile price recovery lagged other commodities and has further to go. Both are late-cycle commodities. Zircon is primarily used for tiles, ceramics, and porcelainware. About 90% of titanium feedstocks are used to make pigments for paint, plastics, and paper.
The market is too pessimistic on the outlook for zircon and rutile prices. Depletion of higher-grade orebodies and a weaker bench of replacements mean prices should sustain around current levels.
Industry dynamics are favourable and likely to support attractive returns. The three largest producers of zircon and high grade titanium dioxide feedstocks account for about 70% of supply global.
Iluka's medium-term developments should underpin modest volume growth. The firm's inventory of undeveloped projects and execution record means it's unlikely production will fall longer-term. The market underestimates the value of the Mining Area C iron ore royalty. It brings a stable and growing source of cash flow with no costs. Bhp Billiton (BHP AU) is nearly tripling output. This low-risk cash flow is worth around AUD 3 per share, more than one-quarter of our AUD 11 per share fair value estimate.


Tight Supply Underpins Positive Outlook for Iluka Resources

Technical Analyst, Vermilion Research

Joe Jasper

Technical Analyst

Technical and Quantitative Research

Vermilion Research

Vermilion’s objective is to deliver timely, actionable, and unique technical research to professional investors through the application of our various technical indicators.

Our research strategists seek to highlight securities which we believe are at major inflection points, based on our various technical and quantitative indicators, and offer asymmetric risk/return profiles. Our unique research methodology, centered on relative strength, enables our strategists to deliver superior investment recommendations.

Our process begins by organizing the universe of actively traded stocks into discrete sectors, then into industry groups. We then apply our technical and quantitative tools to identify developing price trends. Once attractive trends are identified within a selected sector or group, we screen for individual stocks which we believe offer the best risk/reward profile. We provide a historical perspective that often reveals, through our long-term charts, how price patterns often repeat themselves over time.

Technical Analysis

<p>Incremental technical developments continue to be of the bullish variety as more and more countries/regions begin to participate in the rally. These ongoing improvements further cement our positive overall outlook, and we continue to believe that global equities (MSCI ACWI) are poised for additional strength moving forward. In our April International Strategy, we highlight various themes which lead to our overall positive outlook, along with areas within the world's markets where we see immediate opportunity.</p>

Incremental technical developments continue to be of the bullish variety as more and more countries/regions begin to participate in the rally. These ongoing improvements further cement our positive overall outlook, and we continue to believe that global equities (MSCI ACWI) are poised for additional strength moving forward. In our April International Strategy, we highlight various themes which lead to our overall positive outlook, along with areas within the world's markets where we see immediate opportunity.

Global Ex-U.S. Equity Strategy: Positive Outlook Intact; Remain Overweight China

LNG, Oil & Gas, M&A Market Intelligence Specialist

Massimo Bellino

Thematic (Sector/Industry)

<p>The last three years have been characterized by significant M&amp;A activity in the upstream oil and gas industry. As the oil cycle recovered from the price bottom in January 2016, lower asset prices and corporate valuations created opportunities for the companies with a stronger balance sheet to grow inorganically while their weaker competitors were forced to downsize their portfolios. 2018, in particular, has seen a surge of corporate M&amp;A which has been driving consolidation in the industry. This insight examines the trends that have shaped the M&amp;A markets since 2016 with a closer view of 2018 and the outlook for 2019.</p>
<h2><strong>Exhibit 1: M&amp;A volume compared to the E&amp;P index and the oil price since 2016</strong></h2>
<figure class="editor-figure mceNonEditable"><img src="https://static-prod.smartkarma.com/images/media/000/082/014/original/exhibit1volumemonthly.png?1552548943" class="editor-image img-responsive" data-smartkarma-image-id="82014"></figure>
<div class="content-caption">
<em>Source: Energy Market Square, Capital IQ</em><em>. Market value weighted index including independent E&amp;P companies with market value greater than $300m as of 19 April 2018. Data as of 7 March 2019. The M&amp;A volume in September 2018 includes the merger of Wintershall and DEA with an estimated value of $10bn.</em>
</div>

The last three years have been characterized by significant M&amp;A activity in the upstream oil and gas industry. As the oil cycle recovered from the price bottom in January 2016, lower asset prices and corporate valuations created opportunities for the companies with a stronger balance sheet to grow inorganically while their weaker competitors were forced to downsize their portfolios. 2018, in particular, has seen a surge of corporate M&amp;A which has been driving consolidation in the industry. This insight examines the trends that have shaped the M&amp;A markets since 2016 with a closer view of 2018 and the outlook for 2019.
Exhibit 1: M&amp;A volume compared to the E&amp;P index and the oil price since 2016


Source: Energy Market Square, Capital IQ. Market value weighted index including independent E&amp;P companies with market value greater than $300m as of 19 April 2018. Data as of 7 March 2019. The M&amp;A volume in September 2018 includes the merger of Wintershall and DEA with an estimated value of $10bn.


Upstream Oil & Gas M&A Review: Surge of Takeovers and Mergers in 2018 – What to Expect in 2019

Materials Analyst/Strategist, Janus Analysis

Gaius King

Materials Analyst/Strategist

Accelerating Tomorrow’s Independent Research

Boost Research

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<ul>
<li>China implements coal import caps specifically targeting Australian producers</li>
<li>Unclear as to how widespread these restrictions will eventually be</li>
<li>Thermal and metallurgical coal exports affected</li>
<li>Impacting ~A$8.4Bn of metallurgical coal exports; or 4.4% of national income</li>
<li>Thermal coal exports affected worth ~A$3.8Bn; or an additional 2% of national income</li>
<li>Collectively, thermal and metallurgical exports equate to ~0.9% of Australian annual GDP </li>
<li>Actions appear to be a response to blocking Huawei bidding for the 5G network</li>
<li>Recent Chinese cyber-attacks harden Australian Government's resolve</li>
<li>Expect similar Chinese measures (in time) to be applied to other commodities and industries</li>
</ul>


China implements coal import caps specifically targeting Australian producers
Unclear as to how widespread these restrictions will eventually be
Thermal and metallurgical coal exports affected
Impacting ~A$8.4Bn of metallurgical coal exports; or 4.4% of national income
Thermal coal exports affected worth ~A$3.8Bn; or an additional 2% of national income
Collectively, thermal and metallurgical exports equate to ~0.9% of Australian annual GDP 
Actions appear to be a response to blocking Huawei bidding for the 5G network
Recent Chinese cyber-attacks harden Australian Government's resolve
Expect similar Chinese measures (in time) to be applied to other commodities and industries


Confluence of Politics - China Bans Australian Coal Imports (Flash Note)

Over 25-yrs in Global Materials & Soft Commodities

Charles Spencer

Angang Steel Co Ltd (H) / Equity Bottom-Up

<p><strong>INVESTMENT VIEW: </strong> The outlook for Angang’s profitability in 2019 is deteriorating quicker than consensus forecasts, we believe.  Chinese steel demand and pricing are forecast to be weak in 2019, yet raw material costs remain high.  We recommend staying short <a href="https://www.smartkarma.com/entities/203" target="_blank" data-smartkarma-citation="entities:203:1">Angang Steel Co Ltd (H) (347 HK)</a> shares with a PT of HK$5.</p>

INVESTMENT VIEW:  The outlook for Angang’s profitability in 2019 is deteriorating quicker than consensus forecasts, we believe.  Chinese steel demand and pricing are forecast to be weak in 2019, yet raw material costs remain high.  We recommend staying short Angang Steel Co Ltd (H) (347 HK) shares with a PT of HK$5.

Australia

BHP Group Limited operates as a mining company.  The Companyengages in the exploration, development, production and processing of iron ore, metallurgical coal, and copper. BHP Group serves customers worldwide.

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BHP Group Ltd (BHP LN)

Tight Supply Underpins Positive Outlook for Iluka Resources

Undervalued Iluka to benefit from industry supply challenges and sustained favourable prices.Iluka Resources (ILU AU)'s share price is down almost...

Morningstar, Inc.

Global Ex-U.S. Equity Strategy: Positive Outlook Intact; Remain Overweight China

Incremental technical developments continue to be of the bullish variety as more and more countries/regions begin to participate in the rally....

Vermilion Research

Upstream Oil & Gas M&A Review: Surge of Takeovers and Mergers in 2018 – What to Expect in 2019

The last three years have been characterized by significant M&A activity in the upstream oil and gas industry. As the oil cycle recovered from...

Massimo Bellino

Confluence of Politics - China Bans Australian Coal Imports (Flash Note)

China implements coal import caps specifically targeting Australian producers Unclear as to how widespread these restrictions will eventually...

Boost Research

Angang Steel: Headwinds Intensify

INVESTMENT VIEW: The outlook for Angang’s profitability in 2019 is deteriorating quicker than consensus forecasts, we believe. Chinese steel...

Charles Spencer

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