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Is This the Right Time to Buy Steel Stocks?

The steel industry, like many others this year, has seen significant pressures from the pandemic-driven supply chain constraints. But certain interesting things are happening now.

– Zacks

But before we get to that, I want to give you some perspective.

So the main ingredient in steel, as most of us probably know is iron ore. And there are four main regions producing this, i.e. Australia (around 37% share in 2020), Brazil (around 16%), China (around 14%) and India (around 9%). Since these countries have the greatest output, any disruption/overproduction by them has a significant impact on the market.

All of last year, when the world was reeling under the impact of the pandemic, iron ore production in Brazil, which also had a dam burst, was severely impacted. Australia largely filled in the gap. Production out of Brazil is coming back this year with the country shipping 12% more than what it did last year.

The iron ore shortage sent prices soaring 34% to their peak on Jul 19, 2021, even though Brazil has started coming back. And since then, prices have plunged around 44%.

Now what happened in between is an inventory glut in China, which may be attributed to a number of factors. China, which produces more than half the world’s steel, has decided to cut production of the commodity to curb carbon emissions (China’s steel industry accounts for 10-20% of its carbon emissions). It has reportedly asked 20 steel mills in Tangshan city to suspend operations for a week. The provinces of Handan, Anhui, Gansu, Fujian, Jiangsu, Jiangxi, Shandong and Yunnan were ordered to maintain production at 2020 levels.

Broader and longer restrictions could be likely, as the Beijing Winter Olympics is around the corner (for a couple of weeks starting Feb 4). And China could very well reduce production until that is done. It does appear to be managing the situation, since it has raised tariffs on export of steel-related products despite reduced demand from the ongoing housing slump (home sales dropped 20%, according to Bloomberg).

A Wood Mackenzie report quoted by CNBC says that first half 2021 crude steel production in China increased 12% from last year. So between increased first half production, declining demand and export restrictions, China will probably be able to keep the lid on production until the Winter Games are through.

But this means that iron ore stocks are building up both within China and outside, which is leading to slumping prices.

With restrictions on Chinese steel exports and increased demand for housing and infrastructure within the U.S., domestic steel makers are increasing production. Steel production within the U.S. increased around 16% in the first six months of 2021, according to the American Iron and Steel Institute.

The production for the week ending Jul 3, 2021 is 41% higher than in the comparable week last year. The Great Lakes region is currently stronger than the southern and midwestern regions, comprising smaller players.

Increased production means stronger utilization rates, which the American Iron and Steel Institute says had risen to 83% in the week ending Jul 3, compared to 58.3% a year ago.

Given the strong demand and limited supply, steel makers are seeing robust pricing. BLS data shows for example that cold rolled steel sheet and strip prices have been rising steadily over the past year.

So currently, demand is very high, prices are very high, utilization rates and production are on the rise while raw material cost is on a decline. These factors should lead to strong profitability for steel makers, which makes them attractive investment options.

Within the Zacks universe, two steel-related industries are looking good at this point. The Steel – Producers industry (top 7% of 250+ Zacks-classified industries), is housed within the Basic Materials sector while the Steel – Pipe and Tube industry (top 4%) is housed within the Industrial Products sector. Both industries are trading well below the S&P 500 as well as their median valuations over the past year. So they are attractive at these valuations.

Now let’s take a look at some stocks-

A common theme in these stocks is very robust estimate revisions for both the current and following fiscal years. And that’s indicative of above-market growth, since estimate revisions in most industries have started moderating as analysts get a better grip of the COVID disruption.  

Zacks #1 (Strong Buy) ranked Valmont Industries, Inc. VMI for instance had its 2021 estimates rising 83 cents (8.3%) and 2022 estimates rising 82 cents (7.2%) since it reported strong June quarter results. The company is expected to grow its revenue and earnings by a respective 18.5% and 32.0% this year. That will be followed by 7.3% revenue growth and 13.3% earnings growth in the following year.

After reporting robust June quarter earnings, #1 ranked Tenaris S.A. TS saw its 2021 and 2022 earnings estimates jump 36 cents and 30 cents, respectively. But estimates for both years have continued to increase since then by an additional 6 cents and 5 cents, representing total increases of 50.6% and 30.7%, respectively.

Analysts expect revenue and earnings to increase 17.9% and 495.2% in 2021. In 2022, they’re looking for revenues to increase 21.6% and earnings to increase 18.9%.

#1 ranked Nucor Corp. NUE has steadily rising estimates. But in the last seven days alone, the Zacks Consensus Estimate for 2021 earnings jumped 98 cents (5.1%) and for 2022 earnings jumped $1.30 (11.9%). 2022 revenue and earnings still represent a decline from the 75.5% revenue growth and 508.1% earnings growth that analysts are expecting in 2021.

Ternium S.A. TX has a solid history of beating estimates. The #1 ranked company, which is expected to grow its revenue by 77.9% and earnings by 460.6% this year, saw huge estimate increases over the last 30 days. As a result, the Zacks Consensus Estimate for 2021 is up $1.05 (6.6%) and that for 2022 is up $2.07 (22.5%).

#1 ranked ArcelorMittal MT also reported strong June quarter results, beating estimates by the customary big margin. The company’s estimates have been rising steadily over the last 90 days. The 2021 estimate is up $4.71 (57.5%) during this time. The 2022 estimate is up $4.34 (85.4%). Analysts currently expect revenue and earnings to grow a respective 43.7% and 1775.3% in 2021, dropping off the following year. 

Year-to-Date Price Performance

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