5 Solid Steel Stocks That Thumped The S&P 500 In 2017

While the overall demand fundamentals for steel is improving, the industry is still challenged by sustained overcapacity. The global steel industry continues to reel under the effects of excess capacity – the biggest obstacle to persistent growth and profitability.

Upturn in Steel Demand

The World Steel Association ("WSA") – the international trade body for the iron and steel industry – sees global steel demand to expand 7% in 2017 following a 1% rise in 2016. Steel consumption in China is expected to go up 12.4% this year as closure of most of its outdated induction furnaces are expected to lead to a jump in steel use. Global steel demand barring China is expected to rise 2.6% in 2017.

A cyclical upturn in steel demand this year has been backed by strong economic momentum across advanced and developing economies. The U.S. economy is showing strong fundamentals on the back of improving business confidence and healthy consumer spending. Steel demand in the United States is expected to rise 4.8% this year.

Moreover, Eurozone’s economic recovery continues apace, as evident from recent upbeat economic data. The region’s recovery is backed by declining unemployment and strengthening business and consumer confidence. The WSA sees steel demand in the European Union to go up 2.5% in 2017.

Demand in emerging and developing economies (barring China) is also expected to rise 2.8% this year. Developing economies are gaining from an upturn in the world economy and economic reforms across several countries including India and Brazil.

Steel Glut a Concern, but China Winter Cuts to Tighten Output

The global steel industry continued bear the brunt of a surge in production in China this year as steel mills in the world's biggest steel producing nation continued to take advantage of a spike in domestic steel prices that translates to higher profits for the Chinese steel industry.

According to the WSA, global crude steel production went up 5.6% year over year during the first ten months of 2017. Output from China, which accounts for around half of the global production, climbed 6.1% year over year during this period.

Nevertheless, Chinese steel output is expected to decline moving ahead as Beijing has started implementing a four-month reduction in production to streamline its burgeoning steel sector and control pollution during the winter months (lasting until the middle of March 2018). The Hebei province – China’s top steel producing region – is looking to shutter 50% of its steel capacity during winter in a bid to clean up the environment.

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Overall, China is expected to cut its steel production capacity by around 50 million metric tons in 2017. The country’s actions to reduce its excess steel supply during winter are also expected to lend support to global steel prices moving ahead. This is also expected to tighten global steel output in the coming months.

Imports – A Pressing Problem for U.S. Mills

U.S. steel mills have been hit by a renewed tide of cheap imports this year. Imports of subsidized steel continue to flood American shores despite a string of punitive trade actions (in the form of heavy tariffs) and threats of further future measures.

Total steel imports shot up roughly 19% to around 32.9 million net tons through the first ten months of 2017 – according to the American Iron and Steel Institute (AISI), an association of North American steel makers. Finished steel imports for the same period also increased roughly 15% to around 25.4 million net tons, per the AISI.

While positive rulings in trade cases (resulting in levy of heavy tariffs) against China last year led to a decline in Chinese steel exports to the United States, imports from other countries remain at above historical levels.

According to AISI data, steel imports from China fell roughly 6% year over year through the first ten months of 2017. However, imports from other countries such as Russia, Taiwan, Germany, South Korea and Brazil have spiked over this period.

A surge in steel imports put pressure on U.S. steel prices during third-quarter 2017. Continued import pressure has not allowed steel pricing to keep pace with higher raw material costs during the quarter.

Much Hopes Pinned on Section 232

U.S. steel makers continue to pin their hopes on President Trump imposing new restrictions on imported steel. The Trump administration, in April 2017, ordered an investigation under Section 232 of the Trade Expansion Act of 1962 aimed at determining whether the imports pose a threat to national security.

However, the Trump administration has delayed the release of the report on the Section 232 probe, which was initially expected at the end of June 2017. The Commerce Department has until mid-January 2018 to conclude the investigation. A delay in the Section 232 probe has triggered a spike in steel imports into the American market in the recent months.

As the deadline for the probe approaches, a positive outcome will give the Trump administration the opportunity to take broad-based trade actions (in the form of tariffs or quotas) against cheap imports. This would provide a significant thrust to steel prices and give domestic steel makers more pricing power.

5 Market-Beating Steel Stocks

The steel industry has fared well this year outperforming the broader market, despite the headwinds still plaguing the industry as discussed above. With the help of our Zacks Investment Research

Written By: Zacks Investment Research