3 Steel Producer Stocks to Escape Industry Challenges

The Zacks Steel Producers industry has lost momentum as steel prices have witnessed a sharp downward correction after catapulting to historic highs last year. Weaker demand across certain markets, including automotive, lower raw material costs and new capacity have contributed to the downswing in steel prices. Soft demand in China is also a concern.

However, a resilient non-residential construction market and demand recovery in the energy space augur well for the industry. Industry players like Nucor Corporation NUE, Steel Dynamics, Inc. STLD and Ternium S.A. TX are worth a look despite near-term headwinds.

About the Industry

The Zacks Steel Producers industry serves a vast spectrum of end-use industries such as automotive, construction, appliance, container, packaging, industrial machinery, mining equipment, transportation, and oil and gas with various steel products. These products include hot-rolled and cold-rolled coils and sheets, hot-dipped and galvanized coils and sheets, reinforcing bars, billets and blooms, wire rods, strip mill plates, standard and line pipe, and mechanical tubing products. Steel is primarily produced using two methods — Blast Furnace and Electric Arc Furnace. It is regarded as the backbone of the manufacturing industry. The automotive and construction markets have historically been the largest consumers of steel. Notably, the housing and construction sector is the biggest consumer of steel, accounting for roughly half of the world’s total consumption.

What's Shaping the Future of the Steel Producers' Industry?

Slumping Steel Prices to Hurt Margins: Steel prices staged a strong recovery and hit record levels last year on the back of an upturn in demand across key markets, tight supply conditions and low steel inventory throughout the supply chain. Notably, U.S. steel prices skyrocketed to all-time highs last year on supply tightness and robust demand. The benchmark hot-rolled coil (HRC) prices broke above the $1,900 per short ton level in August 2021 and eventually peaked in September. But prices have lost steam since last October due to the stabilization of demand, improved supply conditions and higher steel imports. HRC prices slumped to nearly $1,000 per short ton at the start of March 2022. Since Russia invaded Ukraine, steel prices significantly rebounded and surged to nearly $1,500 per short ton in April 2022 on supply worries and a spike in lead times. However, prices have retreated since then partly reflecting shorter lead times and fears of a recession. HRC prices have tumbled more than 45% since their April peak, falling below the $800 per short ton level. The declining cost of raw materials (including scrap prices) and the addition of new production capacity have also contributed to the downswing in U.S. HRC prices. Lower prices are expected to weigh on the profitability and cash flows of steel-producing companies over the near term.

Slowdown in China a Cause for Concern: Steel demand in China, the world’s top consumer of the commodity, has softened since the second half of 2021 due to a slowdown in the country’s economy. A downturn in the country’s real estate sector contributed to the slowdown. New lockdowns are also taking a significant toll on the world’s second-largest economy. A slowdown in manufacturing activities has led to the contraction in demand for steel in China. The manufacturing sector has taken a beating as the virus resurgence has hurt demand for manufactured goods and supply chains. Beijing’s actions to take the heat out of its property market partly through credit tightening measures is also a concern for the country’s steel industry.

Healthy Non-residential & Energy Demand Masks Auto Weakness: Steel producers are exposed to challenges from softening demand across certain markets. Demand in the automotive market has weakened due to the semiconductor crunch, which is affecting automotive production. The Russia-Ukraine conflict has worsened the chip crisis. Weaker automotive production due to component shortages is likely to affect demand in this market over the near term. Supply issues have also affected demand in the appliances end-market. Macroeconomic uncertainties triggered by the war in Ukraine have also dwindled demand in Europe. Nevertheless, order activities in the non-residential construction market remain strong, underscoring the inherent strength of this industry. Demand in the energy sector has also improved on the back of an uptick in oil and gas prices. Favorable trends across these markets augur well for the steel industry.

Zacks Industry Rank Indicates Downbeat Prospects

The Zacks Steel Producers industry is part of the broader Zacks Basic Materials Sector. It carries a Zacks Industry Rank #220, which places it at the bottom 12% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates a gloomy near term. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Despite the industry’s bleak near-term prospects, we will present a few stocks worth considering for your portfolio. But before that, it’s worth taking a look at the industry’s stock market performance and current valuation.

Industry Outperforms S&P 500

The Zacks Steel Producers industry has outperformed the Zacks S&P 500 composite over the past year while underperforming the broader Zacks Basic Materials sector over the same period.

The industry has lost 20.6% over this period compared with the S&P 500’s decline of 21.2% and the broader sector’s decline of 20.2%.

 

One-Year Price Performance

 

Industry's Current Valuation

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA) ratio, which is a commonly used multiple for valuing steel stocks, the industry is currently trading at 2.69X, below the S&P 500’s 10.95X and the sector’s 5.37X.

Over the past five years, the industry has traded as high as 11.52X, as low as 2.48X and at the median of 6.77X, as the chart below shows.

 

Enterprise Value/EBITDA (EV/EBITDA) Ratio

 

 

Enterprise Value/EBITDA (EV/EBITDA) Ratio

3 Steel Producers Stocks to Keep a Close Eye on

Nucor: Charlotte, NC-based Nucor, carrying a Zacks Rank #3 (Hold), makes steel and steel products with operating facilities in the United States, Canada and Mexico. The company is benefiting from strength in the non-residential construction market. It is also seeing improved conditions in heavy equipment, agriculture and renewable energy markets. Nucor should also gain from considerable market opportunities from its strategic investments in its most-significant growth projects. NUE remains committed to boosting production capacity, which should drive growth and strengthen its position as a low-cost producer.

Nucor has expected earnings growth of 28.8% for the current year. NUE’s earnings beat the Zacks Consensus Estimate in three of the last four quarters. It has a trailing four-quarter earnings surprise of roughly 3.1%, on average. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

 

Price and Consensus: NUE

 

 

 

Steel Dynamics: Based in Indiana, Steel Dynamics is a leading steel producers and metals recycler in the United States, carrying a Zacks Rank #3. It is benefiting from strong momentum in the non-residential construction sector driven by healthy customer order activity. Steel Dynamics is also currently executing a number of projects that should add to its capacity and boost profitability. STLD is ramping up operations at its Sinton Flat Roll Steel Mill. The planned investment in a new state-of-the-art low-carbon aluminum flat-rolled mill also continues its strategic growth.

Steel Dynamics has expected earnings growth rate of 30.2% for the current year. The consensus estimate for the current year has been revised 0.4% upward over the last 60 days. STLD also beat the Zacks Consensus Estimate for earnings in each of the trailing four quarters, the average being 3.8%.

Price and Consensus: STLD

 

 

Ternium: Based in Luxembourg, Ternium, carrying a Zacks Rank #3, is a leading producer of flat and long steel products in Latin America. It is expected to benefit from strong demand for steel products. Its shipments in Mexico are likely to be aided by healthy demand from industrial and commercial customers. Healthy demand for construction materials is also expected to support shipments in Argentina. TX is also benefiting from the cost competitiveness of its facilities. It is also taking actions to boost liquidity and strengthen its financial position in the wake of the pandemic.

The Zacks Consensus Estimate for Ternium’s current-year earnings has been revised 2% upward over the last 60 days. TX also beat the Zacks Consensus Estimate for earnings in each of the trailing four quarters, the average being 16.1%.

 

Price and Consensus: TX

 

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