GSI Takes a Nose Dive - Time to Buy?

Dec.25.09 | About: General Steel (GSI)

One of my stock holdings, GSI, took a nose dive of about 21% this Christmas day. That is not much of a Christmas present, but I will survive and, indeed, as I explain, it should recover. GSI is a Chinese private sector holding company for various specialty steel manufacturing firms in China.

The stock price dropped on news that GSI is going to sell 5.6 million shares of its common stock and, additionally, warrants to purchase up to 2.8 million more common stock shares to institutional investors. At the share price before the announcement and assuming the warrants to cost, say 95% of the same price, this would target raising $32.4 million dollars on the sale of the stock shares and $15.4 million on the warrants. GSI presently has $46 million shares outstanding and a capitalization before the announcement of $213 million dollars. Let us consider the overreaction.

Technically, and ignoring for the moment the sale of warrants, if GSI sells 5.6 million shares and gets yesterday's per share price, there will be no dilution for existing shareholders. More stock is outstanding, but GSI took in the equivalent amount of capital. No harm, no foul, to this point, assuming the money is profitably used. If, on aggregate, the market wants to inflict a loss longer term on GSI, obviously, it can do that and this equivalency will be destroyed. Longer term, however, that is not likely given the business success GSI has been having and the investments it has planned.

Selling the warrants may entail a small natural amount of dilution, but if the shares catch on with institutional investors and the market broadens, the very opposite can result and share prices increase. The business prospects of GSI are excellent. SmarTrend identifies it on a sharp up trend. GSI needs the capital to expand, not pay off debt. Even if GSI got nothing for the “sale” of the new 5.6 million shares and we ignore the warrants, the percentage of dilution is only 12.2%, not the 21% stock price drop we observed today.

This is very much like an undamped mechanical system that is disturbed, say, a long, loose spring which is suddenly pulled on. It, too, over reacts. It will oscillate over and under its equilibrium length, by a lesser amount each time, as an ongoing adjustment for a while before returning to its normal, undisturbed length. Stock pricing is sometimes very similar. People overreact, usually because emotion intervenes, and only later do they look at the situation more rationally and sensibly.

My best guess, unless I am seriously missing something, is it will not be too long before GSI recovers most, if not all of its 21% price drop. Greed and fear are the competing emotional forces and they pull us in opposite directions, at least until we know more and reason and thought intervene and begin to moderate the effects.

Savvy market players understand this well, quickly edit out their emotions and use the over and under oscillations in price to buy and sell profitably. I used today’s drop to buy some more GSI so maybe I’ll have a good Christmas present here after all, just a bit late in its delivery. That GSI is doing well and SmarTrend identifies it as being on a sharp up trend, also confirmed my idea to buy more.

I’ll just have to wait now to see how merry my Christmas was.

Disclosure: GSI