As the global economy began to slow at the end of 2011, a variety of natural resources have seen their prices fall. One of the worst hit was the steel market. As a main demand driver, China has begun to show some signs of lax economic growth, the steel industry has seen its fortunes wane. Add this to the debt/austerity situation in Europe and it's no wonder why steel prices have fallen from their peak of around $900 per metric ton.However, despite the short-term problems facing the industry, the longer-term picture is still rosy for the producers. There are plenty of catalysts to propel higher prices in the future. For forward-thinking investors, the steel industry could offer some of the best current bargains in the natural resources sector.
Growing Infrastructure Demand
Despite its dismal performance in the previous year, stocks within the steel industry could be a great good buy throughout the upcoming quarters. Overall global demand continues to pick up, with nations like India and Brazil taking over for China's slacking needs. India's steel demand has actually grown in every year from 2007 to 2010, in spite of the global credit crisis.
The need for new infrastructure to support their burgeoning middle classes will continue this growing demand. In addition, the deteriorating state of infrastructure in the developed world will help buoy steel prices. A number of developed market nations have unveiled new building programs and infrastructure improvement seems to be the one thing the United States' leaders can agree on. Steel prices have already begun to recover, with hot-rolled coil prices rising more than 20% since mid-November.
With growing long-term demand in tow, Morningstar (Nasdaq:MORN) predicts a bullish rebound for the steel producers. Iron ore prices have fallen by about 30% since October and the switch to spot pricing, rather than the previous quarterly lag, will immediately benefit the producers. In addition, scrap steel prices remain relatively low. These factors have created some of the best input costs for the steel producers in a long time. These falling costs will ultimately boost gross margins for the sector and should improve profitability.
A Solid Portfolio
Given the long-term picture for emerging market steel demand and expanding gross margins for many producers, current valuations for the sector seem cheap. Investors can use the short-term problems to add the sector to a portfolio. With nearly $220 million in assets, the Market Vectors Steel ETF (ARCA:SLX) is the biggest fund in the sector.
The ETF tracks 27 different holdings, including Nucor (NYSE:NUE) and Ternium (NYSE:TX). The fund has rebounded from its lows, but still sits about $20 below its 52-week high. Tracking a wider swath of firms at 70, the PowerShares Global Steel (Nasdaq:PSTL) can also be used as a broad play.
As one of the largest players in the steel industry, ArcelorMittal (NYSE:MT) could be a great bet. The firm's size and regional scope gives it the ability to react to changes faster than many of its rivals. In addition, the company's mining investments give it access to better raw materials pricing as well as high profitably assets themselves. Shares of ArcelorMittal trade for a forward P/E of around 9.64 and yield roughly 3%.
As investors dumped risk assets over the few months, shares of emerging market steel producers suffered the hardest. With North America only producing around 14% of the world's steel, some of the best values could be had in these emerging producers. Brazil's Companhia Siderurgica Nacional (NYSE:SID), Mexico's Grupo Simec (AMEX:SIM) and Russia's Mechel OAO (NYSE:MTL) all trade for P/E's of around 10 and represent quality, low-priced international leaders in the sector.
The Bottom Line
Fears about the slowing global economy and lower Chinese demand made the steel sector one of the worst-performing commodities in 2011. However, many of the long-term catalysts for investment still remain in place. For investors, the recent decline in producers' shares prices represent a value. The previous ideas, along with AK Steel Holding (NYSE:AKS), make great ways to play.
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