Barclays downgrades Kennametal stock rating on valuation concerns By Investing.com

Barclays downgraded Kennametal to Underweight from Equalweight and cut its price target to $33 from $40, citing a muted volume demand recovery and valuation that looks elevated excluding tungsten. The firm said the stock’s 27% year-to-date gain has already captured much of the tungsten tailwind, while free cash flow is now heavily negative due to higher tungsten prices swelling working capital. Recent Q3 fiscal 2026 results were strong, with EPS of $0.77 versus $0.65 expected and revenue of $593 million versus $568 million, but analyst sentiment has turned more cautious.

Analysis

KMT is transitioning from a commodity-assisted re-rating story to a fundamentals test, and that is usually where multiple compression starts. The market had been paying for a temporary input tailwind that lifted reported earnings and sentiment; now the relevant question is how much of the current valuation is supported by ex-commodity earnings power, which appears much less impressive on a normalized basis. Negative working-capital drag also means the quality of earnings is likely to lag headline EPS for several quarters, making the stock vulnerable whenever investors shift from momentum to cash conversion.

The second-order beneficiary is not a direct competitor but the broader industrials complex: if tungsten inflation is peaking, downstream customers may regain some pricing relief, while peers without similar commodity exposure will screen better on FCF yield and EV/EBITDA. For KMT specifically, the risk is that the earnings story becomes a “good quarter, bad stock” setup as the street discounts the next 2-3 quarters of still-visible tailwind and then reprices the name lower once that bridge fades. In other words, the stock can look optically cheap on trailing revised estimates while still being expensive against normalized cash generation.

The contrarian view is that the downgrade may be arriving after the easy part of the move already happened, which limits near-term downside unless tungsten rolls over faster than expected or demand recovery slows. However, this is exactly the kind of setup where crowded longs can unwind quickly if a single print shows deteriorating FCF or if management is forced to explain why working capital remains elevated. The catalyst window is months, not days: the next 1-2 earnings cycles should determine whether this is a temporary rerating pause or the start of a full normalization trade.

Key Decisions for Investors

• Short KMT on strength into the next 2-4 weeks; target a 10-15% drawdown toward a normalized multiple as the market refocuses on ex-tungsten earnings and cash flow. Risk: another beat or sharper industrial demand acceleration could force a squeeze; use a tight stop above the post-downgrade high.
• Pair trade: long higher-quality industrials with cleaner FCF conversion vs short KMT for 1-2 quarters. The goal is to isolate the commodity/working-capital unwind while staying net sector-neutral.
• Buy KMT put spreads 2-3 months out to express the view that the next catalyst is a cash-flow disappointment, not an earnings miss. Attractive if implied vol remains below the likely event-driven gap risk.
• If holding KMT already, trim into any rally and wait for the next quarter’s working-capital update before re-adding. The best entry is after the market sees evidence that tungsten tailwinds have fully rolled off and FCF has stabilized.
• Watch for any commentary on tungsten normalization or inventory unwind as a trigger to add to the short; that would be the point where valuation compression can accelerate materially.