Stimulus expectations are rising: Weak property demand is well known and has been widely expected since the start of the Three Red Lines property tightening policy in August 2020. On the infrastructure side, as of 9M21, only 50% of the Rmb3.65tln local government bond quota had been issued, 20% of which was issued since July. With a lag of 1-2 quarters normally needed from bond issuance to demand pickup, we expect infrastructure demand to improve by year-end and into 2022.

Supply cuts outweighing soft demand: As local governments try to meet their energy consumption and energy intensity control targets before year end, supply of multiple commodities/ materials will be negatively affected in 2H21. We forecast steel production will be down 11% YoY in 2H21, with 3% QoQ and 9% YoY declines in 4Q21. YTD, aluminum has seen a 3.5 mnt (or 9%) capacity impact.

We look for aluminum production to fall 4% QoQ and 6% YoY in 4Q21. Cement is also starting to see production controls in several regions, with 35% of total China cement production negatively affected. We estimate cement production to decline 2% QoQ and 11% YoY in 4Q21. See Exhibit 13 for further details of the impact on our covered companies as indicated by our channel checks.

Our order or preference in our China Materials coverage: #1: Supply constraints amid healthy demand – Aluminum & Lithium: We believe the aluminum segment has structurally changed due to China carbon neutrality agenda. We like Chalco and Nanshan Aluminum. For lithium, supply response is lagging demand growth, while the new auction pricing system by Australian miners is changing the segments with more profit being shared upstream than in the past. We prefer Ganfeng Lithium H with more integrated resources and high growth in conversion capacity as well as in the battery segment.

#2: Supply constraints amid weak demand – Steel, Cement & Paper: Weak property demand and slow pickup in infrastructure demand are well priced in.

We expect supply cuts to be greater than the demand slowdown, thus leading to profit improvement for all three segments. We prefer Baosteel, Angang, CR Cement, CNBM and Conch.

#3: Less preferred: No impact on supply amid weak demand – Float Glass: Given difficulties in shutting down, we think it is less likely that the government will order glass makers to shut down production. But due to the slowdown in property demand, we see more downside to glass price compared to other materials that are facing supply disruption. This, together with the rising cost of caustic soda, may result in lower margins, which could lead to a faster pace of maintenance for furnaces.