The chemical industry is clawing its way back from the trough of the Great Recession. Despite a spate of headwinds, the highly cyclical industry put up a decent performance last year, helped by continued strength across automotive and housing markets – two major end-use markets for chemicals.

Chemical makers continue to shift their focus on attractive, growth markets in an effort to whittle down their exposure on businesses that are grappling with weak demand. The industry is also seeing a pick-up in consolidation activities as chemical makers are increasingly looking for cost synergy opportunities and enhanced operational scale in a still-difficult global economic environment. Moreover, cost-cutting measures and productivity improvement actions by chemical companies are expected to yield industry-wide margin improvements.

Within the Zacks Industry classification, the chemical industry falls under the broader Basic Materials sector. Looking at the overall results of this sector, earnings for 45% of the sector participants in the S&P 500 index reported so far are up 19.6% in fourth-quarter 2016, per the latest Earnings Preview.Overall earnings for the sector for the quarter are projected to move up 2.3%.

U.S. Chemical Industry on Course for Solid Growth

The outlook for the U.S. chemical industry paints an encouraging picture. The American chemical industry remains on course for strong growth this year and the next despite several challenges including a strong dollar, soft export markets and a low oil price environment. The American Chemistry Council (“ACC”) envisions national chemical production to rise 3.6% in 2017, further accelerating to a 4.8% growth in 2018. The trade group also expects basic chemicals production to expand 4.2% in 2017 on the back of advances in manufacturing and exports.

Moreover, the shale gas bounty is expected to drive investment on plants and equipment in the U.S. Chemical makers are ratcheting up investment on shale gas-linked projects to take advantage of ample natural gas supplies.

Per the ACC, over 275 new chemical projects have been announced by chemical makers (worth more than $170 billion) since 2010, nearly half of which already complete or under construction. Such investments – many backed by Federal government support – are expected to boost capacity and export over the next several years.

Major End-Markets Showing Strength

The automotive sector – a major chemical end-use market – continues its healthy run. In particular, U.S. light vehicles market continued to show strength in 2016, supported by an improving job market, rising personal income, low fuel prices and attractive financing options, and the momentum is expected to continue this year.

A recovery across housing and commercial construction markets has been another tailwind for the chemical industry. The underlying demand trends in the housing space remain strong, supported by an improving employment levels, affordable interest/mortgage rates and a rise in income levels. This augurs well for chemical demand in this key market.

How to Pick the Winners?

Given the large number of players operating in the chemicals space, picking the right stocks is apparently not an easy task. But our proprietary methodology makes it fairly simple. Instead of boiling the ocean, one can trim down the list with the combination of a favorable Zacks Rank – Zacks Rank #1 (Strong Buy), #2 (Buy) or #3 (Hold) – and a positive Zacks Earnings ESP.You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter. 

Earnings ESP – the percentage difference between the Most Accurate Estimate and the Zacks Consensus Estimate – is our proprietary methodology for determining stocks that have high chances of notching up earnings surprises in their next announcements. Our research shows that for stocks with this combination, the chance of a positive earnings surprise is as much as 70%.

Below we list 4 chemical stocks having the right combination of elements to rack up positive surprises this earnings season:

Albemarle Corporation (ALB - Free Report), which makes and markets engineered specialty chemicals, is scheduled to release its fourth-quarter results after the bell on Feb 27. This Zacks Rank #2 stock has an Earnings ESP of +2.67%. The Zacks Consensus Estimate for earnings for the fourth quarter stands at 75 cents. The company has delivered positive earnings surprises in each of the last 4 quarters, with an average beat of around 27.1%.

Kraton Corporation (KRA - Free Report), which makes styrenic block copolymers and other engineered polymers, is expected to report fourth-quarter results around Feb 28. The stock has an Earnings ESP of +3.23% and carries a Zacks Rank #2. You can see the complete list of today’s Zacks #1 Rank stocks here. 

Kraton has delivered an average positive earnings surprise of roughly 25.5% in the trailing 4 quarters. The Zacks Consensus Estimate for the fourth quarter is pegged at 31 cents.

Trinseo S.A. (TSE - Free Report), which makes plastics, latex and synthetic rubber, is slated to report fourth-quarter results after the bell on Feb 22. The stock has an Earnings ESP of +4.65% and carries a Zacks Rank #3. The Zacks Consensus Estimate for the fourth quarter stands at $1.29. Trinseo has an impressive track record with respect to earnings, having outpaced the Zacks Consensus Estimate in each of the last 4 quarters.

American Vanguard Corporation (AVD - Free Report), which makes chemicals for crops, human and animal health protection, is expected to report fourth-quarter results around Mar 7. This Zacks Rank #3 stock has an Earnings ESP of +23.08%. The company has delivered positive earnings surprises in 3 of the last 4 quarters, with an average beat of around 28.8%. The Zacks Consensus Estimate for the fourth quarter is pegged at 13 cents.

Bottom Line

While some industry-specific challenges, Eurozone’s feeble recovery and concerns over China’s future growth remain sources of near-term uncertainties, the chemical industry’s recovery momentum is expected to continue in 2017, backed by continued strength in the light vehicles market, positive trends in the construction space and significant shale-linked capital investment.

Amid such a backdrop, a sneak peek at the space for some potential winners backed by a solid Zacks Rank and a positive Earnings ESP could be a great idea for investors looking to gain from this earnings season.