Value Investing In Europe: A Look At The Chemical Sector


Editor’s note: This is part of an interview series with charterholders around the world. We met up with Christian Faitz, CFA, who heads chemicals equity research for Europe at Macquarie Securities in Frankfurt to ask some quick questions. He has been covering the sector for more than 16 years.

CFA Institute: What do investors need to know about the European chemicals sector?

Christian Faitz, CFA: The chemicals sector in Europe is one that has heavily restructured. Almost all of the listed companies have sold off their basic chemical parts, either to private equity or to Middle Eastern companies. They have concentrated on higher value-added chemicals that are closer to the end consumer. This is a move we’ve seen over the past 15 years. The chemicals industry is in pretty good shape because of the restructuring, and that makes it interesting.

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Are there fundamental trends that are driving the numbers?

The European chemicals industry has been faring exceptionally well over the past three years. It has had strong pricing power and volume growth. It’s driven by growing demand from car manufacturers that want to replace metal parts in engines with plastic ones. In Asia, and in China specifically, people are buying premium cars like crazy. To produce each premium car, an automaker needs about 250 kilograms of chemicals.

Another point is that the chemicals industry in Europe, and in the United States up until recently, has been very disciplined in terms of capacity expansion. The companies had a limited supply of chemicals, so the companies had the ability to negotiate good prices with their customers.

You mentioned carmakers. What else is driving demand in the European chemicals sector?

Demand from the construction industry is no longer strong. We all know what happened on the construction side in the United States and in Europe. Demand still comes mostly from the automotive sector. Sales are usually broken down into 25% for cars, another 20–25% for the construction industry (for example, for insulation materials), and another 15% for consumer electronics. These three industries account for the majority of the demand.

It all goes back to global megatrends, such as mobility. For better mobility, you need lighter-weight cars, which companies make by replacing metal parts with plastic ones. You can extend battery life that way, too.

Another megatrend is saving energy and reducing carbon dioxide emissions with proper housing insulation. Because insulation is a chemical product, chemical companies stand to benefit. Another trend is the need for better productivity in agriculture, something the chemicals industry caters to with pesticides and the like.

Would you recommend the European chemicals sector as an investment play?

Definitely. Chemicals are operationally strong and riding the global trends I mentioned. The world population is growing. We hit the 7 billion mark last year, and we’ll soon be hitting the 8 billion mark. That growth means the world needs more efficient nutrients, but we have less and less arable land. Agriculture productivity must rise, and the best way is with agrochemicals and fertilizers. This is a given. Pesticides and fertilizers help keep plants healthy, increase nutrients, and make farming more efficient.
European chemicals are definitely a long-term investment play, and farmers are once again spending on agricultural inputs and safeguards to stabilize yields for next year. They have more to spend now because of higher prices for corn, soybeans, and wheat as a result of the U.S. drought this summer.

But what about the risks?

The European chemicals sector is strongly linked to the automotive and construction industries globally. As such, it is impacted by swings in GDP. If global output cools down, the European chemicals sector will obviously be hurt.

You’ve been covering the chemicals sector for quite some time. How have you personally developed your “edge” — that is, the investment approach you recommend for your clients?

During my time, I have seen many trends that didn’t last, and I have heard management say many times that “this time is different.” The industry moved into and out of pharma, back into pharma, and out of it again. I learned to take this all with a skeptical view.

In addition, Macquarie Securities has developed a proprietary chemicals index that tests for the operational strength of the industry. It is composed of 17 macroeconomic indicators that help us understand how the operating environment for the chemicals industry is developing — independent of management statements.

Ed: So, perhaps for investors searching for value in Europe might take a look at the chemicals sector, but it also seems like it will be important to construct an informed view on the demand coming from other sectors.

Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

By Robert Stammers, CFA. This was previously published on Inside Investing at the CFA Institute.

Inside Investing at CFA Institute is a forum for delivering actionable insights on current issues in finance and investing. The blog is written by CFA Charterholders for a wide audience and aims to elevate interesting and compelling opinions, educate the public about investment topics, and give practical tools for investors to use.

By delivering useful and practical insights, Inside Investing supports and extends the mission of CFA Institute, the global association of investment professionals, which strives to lead the investment profession globally by setting the highest standards of ethics, education, and professional excellence.

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