Auto, Construction Sectors: Pillars of the Steel Industry

Steel is used in every important industry ranging from energy, construction, automotive and transportation, infrastructure, packaging and machinery. Expectations of increased infrastructure-related spending in the United States have thrust steel company stocks to new highs, particularly following the November 2016 election.

There are plenty of reasons to be optimistic about the broader steel industry, both in the short and long term. Here, we discuss some of the key reasons and what investors in the steel sector can look forward to in the coming months and years.

The “Trump” Card

After being in the dumps for a major part of 2016, steel stocks got a big boost following Donald Trump’s win in November on expectations of significant infrastructure spending in a Trump administration. The president’s call for the massive infrastructure spending is likely to have a beneficial effect on the steel industry given the expected increase in steel demand, as it is a key component in many infrastructure products. Trump’s “big” spending plans have thus painted a bullish picture for steel companies.

Construction Sector Remains a Pillar of Strength

The homebuilding market remains a pillar of strength for the economy, along with the steel industry. The housing and construction sector is the largest consumer of steel, accounting for almost half of the total consumption. Positives like an improving economy, healthy job growth, low interest rates, positive consumer confidence and a tight supply situation raise optimism about the sector’s performance.

The US Architecture Billings Index (ABI), an economic indicator that provides an approximately nine to 12 month glimpse into the future of non-residential construction spending activity, has been at 50 or better for major part of the last year indicating reliable, manageable and sustainable growth in architectural activity. The American Institute of Architects (AIA) anticipates spending in the non-residential building sector to advance around 6% in 2017. Nucor Corporation (NUE) and Commercial Metals Company (CMC) are the leading steel suppliers to the non-residential construction sector.

Over the long haul, as the urban population increases worldwide, the need for steel to build skyscrapers and public transport infrastructure should see an uptrend as well. Emerging economies will continue to be major catalysts, owing to the huge amount of steel required for urbanization and industrialization. Hence, demand for steel is anticipated to remain strong in the years to come. Companies like United States Steel Corp. (X), ArcelorMittal (MT), Nucor Corporation and Steel Dynamics Inc. (STLD) would benefit from momentum in construction.

Steel to Ride on Demand from Automotive Sector

The automotive sector, which is the second largest steel consumer, is showing significant promise despite threats from other materials. Besides giving a boost to the already rising U.S. auto sales, cheap oil has backed a recovery in the European auto market. The rising sales trend is anticipated to persist on the back of falling fuel prices, low interest rates, enhanced job security, rising wages and household wealth. Moreover, the trend will be backed by 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. This will benefit auto parts manufacturers and retailers. The auto industry in Asian countries, particularly China and India, are also projected 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 automakers cashing in on strong demand, steel is expected to get a proportional boost in the years to come. ArcelorMittal and AK Steel Holding Corporation (AKS) generate a large portion of their revenues from auto companies. ArcelorMittal is expanding its global portfolio of automotive steels by launching a new generation of advanced high strength steels (AHSS).

Nucor has entered into a joint venture with JFE Steel Corporation of Japan to build and operate a plant in Mexico that will supply sheet steel to the country’s growing automotive market. Construction of the plant, which will have the capacity to produce 400,000 tons annually, started in June.

Indian Steel to Be a Major Driver

India, currently the fourth largest producer of steel in the world, is anticipated to record exponential growth in the future. This will be fueled by increasing urbanization, along with projected growth in the infrastructure, automobile and real estate sectors.

The country’s comparatively low per capita steel consumption and the anticipated rise in consumption owing to increased infrastructure construction, along with the thriving automobile and railway sectors, offer huge scope for growth. Steel demand in the sub-continent is projected to grow backed by reforms to boost consumption and infrastructure investment.

Steady Growth in Developed Economies

Developed economies are expected to witness a stable recovery momentum. Steel demand in these regions will grow 0.7% in 2017 and 1.2% in 2018. In the EU, steel demand recovery remains on track backed by resilient consumption and a mild recovery in construction. Eurozone monetary policy will remain on its current path. If political stability can be maintained, investment is anticipated to pick up and provide a further boost to the recovery. In the United States, an improving job market and a strong housing sector and Trump’s infrastructure push will support growth in steel demand.

Imposing Anti-Dumping Duties

One of the major factors that fueled a recovery in the steel sector last year were favorable developments on a number of trade cases that led to a decline in steel imports. Affirmative rulings in these cases have been a positive catalyst for the U.S. steel industry. Steel imports fell around 15% year over year in 2016 on the back of punitive trade actions that led to levy of tariffs on imports.

Trump’s aggressive trade policies are expected to provide more protection to the U.S. steel industry. American steel industry executives from companies including ArcelorMittal, Nucor, AK Steel, U.S. Steel, Commercial Metals and Steel Dynamics have recently appealed directly to President Trump in a letter to take instant action under Section 232 of the Trade Expansion Act of 1962 to prevent excess steel capacity and surging steel imports.

The letter stated that since the announcement of 232 investigations in April, imports have been on the rise. The letter asks for prompt action to meaningfully adjust imports to restore healthy levels of capacity utilization and profitability to the domestic industry over a sustained period.

Acquisitions on the Rise

Nucor, in early 2017, wrapped up its purchase of steel electrical conduit maker, Republic Conduit, from Luxembourg-based Tenaris S.A. (TS) for $335 million. The acquisition is expected to make the Nucor a market leader in steel electrical conduits. Moreover, the company acquired Southland Tube for $130 million in January 2017. The buyout strengthens Nucor’s foothold in the hollow structural section (HSS) steel tubing maker.

Further, the purchase of the assets of open web steel joists maker, Omega Joist, also allows Nucor to grow its joist and decking business in Canada. The recently announced acquisition of St. Louis-based steel bar maker, St. Louis Cold Drawn, Inc. is also in sync with Nucor's strategy to expand its position as the market leader in cold finished bar products and complements its goal to profitably grow its value-added product portfolio.

ArcelorMittal and its partner Marcegaglia, announced that AM Investco has reached a binding agreement with the Italian government regarding the lease and obligation to purchase Ilva S.p.A. This represents another attractive growth opportunity for the company. It will provide an opportunity to expand leadership and product offering in Italy, the second-largest steel producing and consuming market in Europe.

How to Play the Industry

As you can see, there are many reasons to be optimistic about the steel industry over the long haul. POSCO (PKX) and Schnitzer Steel Industries, Inc. (SCHN), both sporting a Zacks Rank #1 (Strong Buy) are good investment options. You can see the complete list of today’s Zacks #1 Rank stocks here.Gerdau S.A. (GGB), Kobe Steel, Ltd. (KBSTY) and Universal Stainless & Alloy Products Inc (USAP) with a Zacks Rank #2 (Buy) are also good additions for investors keen to add steel stocks to their portfolio.

Posco has an expected long-term EPS growth rate of roughly 5%. It has an expected earnings growth rate of 116.53% for the current fiscal year.

Schnitzer Steel Industries has a projected earnings growth rate of 115.94% in the current fiscal year. Gerdau is expected to deliver a massive jump of 1800% in fiscal 2017 earnings. Kobe Steel is projected to deliver earnings per share of 66 cents in fiscal 2017, a reversal from the prior-year loss of 39 cents. Universal Stainless & Alloy Products is anticipated to deliver earnings per share of 35 cents in fiscal 2017, a reversal from the prior-year loss of 74 cents.

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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