Focus on cost-to-sales ratios more than oil prices
Due to the recent fluctuations in oil prices, share price volatility in the construction sector has mounted as of late. However, we believe that the correlation between oil prices and construction stocks will weaken going forward, as: 1) constructors’ overseas businesses are already heavily discounted; and 2) concerns towards shrinking sales at overseas businesses now appear to be mostly reflected in share prices. However, rather than worrying about sales declining at overseas businesses (concerns stem from the oil price falls), we suggest focusing on overseas businesses’ improving cost-to-sales ratios.
Fluctuating oil prices serving to increase volatility for construction stocks
-Due to the recent fluctuations in oil prices, share price volatility in the construction sector has heightened as of late. We point out that oil prices declined sharply in 4Q14, causing construction shares to correct.
-Over 2010~2012, the market focused on constructors’ overseas divisions (on expectations for strong sales growth), resulting in construction share prices closely following oil prices (correlation of 0.74).
-From 2013, however, as losses at overseas divisions widened, construction shares de-coupled from oil prices (correlation fell to 0.61). We note that the correlation began to rise again in 4Q14 as oil prices tumbled.
Overseas plant orders to dip on oil price falls, but negatives to be limited
-We believe that overseas plant orders will decrease due to the oil price falls. However, with a high number of overseas orders having already been taken, overseas sales are unlikely to shrink notably before 1H16.
-We expect additional negatives stemming from the oil price falls to be limited, as: 1) investors have been downbeat towards constructors’ overseas businesses for some time; and 2) the fall in oil prices is unlikely to impact overseas divisions’ cost-to-sales ratios. At present, we take the view that the normalization of cost-to-sales ratios at overseas divisions is the most critical factor for the construction industry.
Focus on normalization of cost-to-sales ratios
-Over the short term, we forecast that the bearing of oil price movements will have a moderate impact on the direction of construction stocks. However, with sales and operating profit figures at domestic housing divisions picking up, sales contributions from overseas businesses are set to decline, which should serve to lower the correlation between oil prices and construction share prices.
-Rather than concentrating on the possibility of sales falls at overseas divisions, we suggest focusing on the fact that overseas businesses’ cost-to-sales ratios are improving. Given that concerns towards sales at overseas divisions are already reflected in share prices, and given that the average price-to-sales ratio for the five large domestic constructors stands at just 0.2x, any further oil price falls should have only a limited impact on constructors’ shares.
*Source: NH Investment & Securities Co.