Jefferies sees rates outlook shaping chemical sector returns

Investing.com -- Jefferies said the Federal Reserve's focus in 2027 will determine which chemical companies perform better, with the sector largely pricing in a higher-for-longer rate scenario that could delay a durable goods recovery.

The firm said chemical companies face different outcomes depending on whether the Fed prioritizes aggregate demand or interest-rate sensitive demand. For a higher-for-longer rate environment, Jefferies recommended LIN, CTVA, IFF and KWR as buy-rated stocks. If the Fed shifts focus in a way that would boost the home equity wealth effect, the firm recommended CE, HUN, EMN, MEOH, CBT, DCI and AVNT as buy-rated names.

The impact on earnings from higher corporate borrowing costs since 2022 continues to affect companies as they restructure their balance sheets. For about half of the stocks Jefferies covers, refinancing existing debt at current levels would create a headwind equal to more than 1% of EBITDA.

At current rates, the firm said DCF-based benchmarks support roughly 19.0x next-twelve-month EPS for ruler stocks, assuming 5%-6% net income growth plus 300-500 basis points from buybacks and M&A. For cyclical specialty chemicals, the multiple would be around 16x, or about 11x if a recession appears likely within 2-3 years. Commodity chemicals would trade at 11-12x, or 4x-5x if a near-term recession seems probable.

Jefferies said a regression model calibrated to the 1980s-2000s suggests a sector-level warranted next-twelve-month P/E of 14x-15x, compared to the current 18.4x. The warranted relative multiple to the S&P 500 would be 95%-100% depending on oil prices.

The firm estimated each 100 basis point increase in borrowing costs would reduce EPS for most chemical companies by 1%-3%. Such a rise would also cut DCF-based valuation multiples by about 5%, or roughly 8% for companies with more than 3x net debt to EBITDA.

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