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Why Steel Stocks Could Add Resilience to Your Portfolio

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Over the past few years, the steel industry has reaped the benefits of accelerating growth in developing economies. This helped steel makers to offset the slowdown in the mature, developed nations of the world. Asia and in particular China remained the principal growth driver.

However, the current scenario is slightly concerning with the conventional growth engine, China, adding an element of uncertainty to the outlook. Nevertheless, there are plenty of reasons to be optimistic about the broader steel industry, both in the short and the long term. Below, we discuss some of the key reasons and what investors in the steel sector can look forward to in the coming months and years.

Rebound in Construction

The housing and construction sector is the largest consumer of steel today, accounting for almost half of total consumption. Last year was on the whole good for the housing market. In fact, it turned out to be the best since 2007, when the housing recession had set in. After a dull first quarter for U.S. housing, sales picked up in the ensuing months amid an improving economic environment and a better employment picture.

Going ahead, improved job numbers, a recovering economy and improving consumer confidence, moderating home price gains, affordable interest/mortgage rates, rising rentals, rapidly rising household formation and a limited supply of inventory all point to continued strong demand in 2016.

The US Architecture Billings Index (ABI), an economic indicator that provides an approximately nine-to-twelve-month glimpse into the future of non-residential construction spending activity, remained over 50 in eight months of 2015. Any score above 50 indicates an increase in billings. 2015 ended on a positive note with a December ABI score of 50.9. The American Institute of Architects (AIA) anticipates spending in the non-residential building sector to rise 8.2% in 2016. Nucor Corporation ( NUE ) and Commercial Metals Company ( CMC ) are the leading steel suppliers to the non-residential construction sector.

In the long term, as the urban population increases worldwide, so will the need for steel to build skyscrapers and public-transport infrastructure. Emerging economies will continue to be major demand drivers due to the huge amount of steel required for urbanization and industrialization. Hence, the demand for steel is expected to remain strong in the years to come.

Companies like United States Steel Corp. ( X ), ArcelorMittal ( MT ), Nucor Corporation and Steel Dynamics Inc. ( STLD ) will benefit from the momentum in construction.

Booming Automotive Sector

The automotive sector, which is the second-largest steel consumer, is showing significant promise despite threats from other materials. Sustained improvement in the labor market and low oil and gas prices have been driving up auto sales. Apart from giving a boost to already rising U.S. auto sales, cheap oil has also helped in the recovery of the European auto market.

U.S. light vehicle sales hit a record 17.5 million in 2015. The number, which rose 5.7% year over year, outperformed the previous record of 17.41 million attained in 2000. The rising trend in sales is expected to continue in 2016, driven by falling fuel prices, low interest rates, enhanced job security, rising wages and household wealth, improving consumer confidence, residual pent-up demand, attractive deals and vehicle launches.

Moreover, the high average age of light vehicles on U.S. roads is resulting in large replacement demand for cars as well as car parts. The average age is expected to rise to 11.5 years by 2017 and 11.7 years by 2019 from 11.4 years at the end of 2013, according to forecasts by IHS Automotive. This will benefit auto parts manufacturers and retailers.

The auto industry in the Asian countries, particularly China and India, are also expected to flourish over the next five to seven years. China is the biggest and fastest growing auto market in the world in terms of number of vehicles sold. With the automakers riding the wave of strong demand, steel is likewise expected to get a boost in the years to come. ArcelorMittal and AK Steel Holding Corporation ( AKS ) generate a large portion of their revenues from auto companies.

Growth in the Indian Steel Sector

India is currently the fourth largest producer of steel in the world. The Indian steel industry is expected to register exponential growth in the future, riding on increasing urbanization, and projected growth in the infrastructure, automobile and real estate sectors. India's comparatively low per capita steel consumption and the expected rise in consumption due to increased infrastructure construction and the thriving automobile and railways sectors offer huge scope for growth.

With conducive raw material supply conditions, a growing market and competent producers, India is on the cusp of a new growth curve. Though it may not come immediately, the fundamental conditions for growth are in place.

Imposing Anti-Dumping Duties

A number of countries, including the U.S., have initiated anti-dumping investigations against Chinese steel exports. Steel companies including United States Steel Corporation, ArcelorMittal AK Steel Holding Corporation and Nucor Corporation filed a series of trade cases last year.

The U.S. Department of Commerce ("DOC") recently took punitive measures to repel the tide of unfairly traded imports from a host of foreign producers including China. The DOC, last month, imposed a whopping anti-dumping duty rate of 255.80% on imports of corrosion-resistant steel from China. The commerce department has also levied a massive countervailing duty rate of 227.29% on imports of cold-rolled steel from Chinese exporters.

These actions are expected to help American steel makers defend their turf against illegally dumped steel products. The imposition of duty will boost the margins of steel companies, which were forced to cut production and idle plants, threatened by cheap steel imports.

Consolidation

Mergers and acquisitions have always been an important growth strategy for the steel industry, leading to additional capacity, production efficiency and economies of scale.

Since 2014, we have seen some renewed activities in the space. In Sep 2014, AK Steel acquired Dearborn, MI-based Severstal North America's integrated steelmaking assets. The facilities complemented AK Steel's existing carbon steel operations, while giving it access to highly modernized and upgraded steelmaking equipment and facilities.

Also, in Sep 2014, Nucor acquired Gallatin Steel Company from global steel giant ArcelorMittal and Brazilian steel maker Gerdau S.A. ( GGB ). The buyout reinforced the company's foothold in the key Midwest region and allowed it to better serve its flat-rolled customers in the growing pipe and tube segment. The addition of Gallatin Steel enhanced Nucor's total flat-rolled product annual capacity by 16% to around 13 million tons.

Steel Dynamics completed the acquisition of Severstal Columbus, LLC for $1.625 billion in cash, also in Sep 2014. It was expected to expand the company's annual steel shipping capacity to 11 million tons, representing a roughly 40% rise. Steel Dynamics also got exposure to the high-growth oil country tubular goods and automotive markets. In Sep 2015, in a move to boost its fabrication platform, Steel Dynamics acquired certain steel decking facilities from Consolidated Systems.

In Nov 2015, Nucor agreed to buy Gerdau Long Steel's Bright Bar assets located in Orrville, OH and Cartersville, GA. This acquisition will strengthen Nucor's competitive position in cold finished bar and increase the company's downstream participation in this market. It will also enhance Nucor's geographic footprint and expand its product portfolio. Through this move, Nucor intends to boost its margins and manufacture value-added products to complement its current cold finish operations.

Bottom Line

As you can see, there are plenty of reasons to be optimistic about the steel industry over the long haul. But what about investing in the space right now?

Check out our latest Steel Industry Outlook for more on the current state of affairs in this market from an earnings perspective, and how the trend is shaping up for the future.

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UTD STATES STL (X): Free Stock Analysis Report

STEEL DYNAMICS (STLD): Free Stock Analysis Report

NUCOR CORP (NUE): Free Stock Analysis Report

ARCELOR MITTAL (MT): Free Stock Analysis Report

GERDAU SA ADR (GGB): Free Stock Analysis Report

COMMERCIAL METL (CMC): Free Stock Analysis Report

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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