Basic Materials: Sector Soars as Broader Market Falls; We See Opportunities in Chemicals and Agriculture

The Morningstar US Basic Materials Index vastly outperformed the broader market during the first quarter. Following this outperformance, most of the sector is fairly valued or overvalued. No names currently trade in 5-star territory, and less than 40% of the sector trades in 4-star territory. We see opportunities in chemicals and agriculture. Many stocks in these industries rallied following the start of the Middle East conflict, particularly US commodity chemicals and fertilizer producers, as prices rose. We still see some opportunities.

In the commodity chemicals market, the Iran war has led to rising prices due to a supply shock. Using ethylene as an example, the Middle East accounted for a third of global exports, with most exports passing through the Strait of Hormuz. The Strait’s closure means supply must be rerouted, driving an immediate supply shock as there is little excess global inventory. However, in response to the conflict, natural gas production in the Middle East has fallen. This will lead to a production shortfall over time, raising prices and demand for US chemicals.

In semiconductors, the growing demand for artificial intelligence will require newer, more powerful chips over time. For semiconductor materials producers, new chips mean higher volumes of more specialty materials, which leads revenue to grow faster than global chip volumes over the long term.

Like commodity chemical producers, North American fertilizer producers are well-positioned to capitalize on a fertilizer supply shock that will drive prices higher. The Middle East accounted for around 40% of global nitrogen exports and 20% of phosphate exports. While nitrogen prices have risen immediately and are up over 40% year to date, phosphate prices are up only 5%, as we estimate the supply shock will take longer to play out. However, we see rising prices in the coming months helping to boost North American producer profits.

Top Basic Materials Sector Picks

Dow

• Fair Value Estimate: $45.00
• Morningstar Rating: ★★★★
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High

Dow DOW is our top pick for investing in a rebound in chemical prices from the Middle East supply shock. The stock trades more than 15% below our $45 fair value estimate. Dow’s narrow moat stems from cost-advantaged commodity chemicals produced primarily from low-cost North American natural gas feedstock. With the North American chemicals plant operating at near-full capacity, we see higher capacity utilization and higher prices, boosting profits and free cash flow generation in 2026.

Mosaic

• Fair Value Estimate: $40.00
• Morningstar Rating: ★★★★
• Morningstar Economic Moat Rating: None
• Morningstar Uncertainty Rating: High

Mosaic MOS is our top pick for investing in rising phosphate and potash prices from the Middle East supply shock. The stock trades more than 30% below our $40 fair value estimate. Mosaic has a no-moat rating due to its higher-cost phosphate production, which we estimate is in the second quartile on the global cost curve and is too high for us to award a narrow-moat rating. However, with near-term phosphate prices well above our long-term forecast, Mosaic should benefit from higher profits in 2026.

Qnity Electronics

• Fair Value Estimate: $135.00
• Morningstar Rating: ★★★★
• Morningstar Economic Moat Rating: Narrow
• Morningstar Uncertainty Rating: High

Qnity Q is our top pick to invest in long-term demand for semiconductor and electronics materials and chemicals. The stock trades more than 15% below our $135 fair value estimate. Qnity’s narrow moat comes from its intangible assets, as its proprietary products help its semiconductor fabricator customers manufacture newer, more powerful chips, with smaller node sizes. As more powerful chips are needed to fuel AI growth, Qnity is well-positioned to benefit.