Nucor Corporation: Capitalize on the Weak Steel Industry

The last time I mentioned Nucor Corporation (NUE)was in July just before a quick 15% plus move lower by the stock. Since that time we have had some time to digest new economic information and gain a few more pieces of the ever-evolving puzzle. I mentioned that most analysts continued to be optimistic about US steel prospects even as NUE management was warning that weakness was being seen. In reading through the most recent reports including Merrill Lynch’s upgrade on the stock Friday the 24th, I still feel like there is a good bit of optimism in the analysts reports that follow the company.

In my opinion, the steel industry is at a pretty important crossroads that will determine how the next year or two looks for the stocks. As emerging markets have demanded steel to build infrastructure, US imports dropped significantly as producers could get better prices for steel by selling to China, India, Central Europe and the Middle East. In fact, there was a good bit of pickup in the US export business as US based producers took advantage of rising foreign demand. Now, additional capacity is coming online making it easier to meet that robust demand, and the US has seen a pickup in domestic imports. Additional supply coming in to a marketplace will by nature drive prices lower.

As prices for sheet and plate steel have dropped, margins have begun to see pressure and firms like AK Steel (AKS), Steel Dynamics (STLD), and United States Steel Corp (X) have seen their stock prices under pressure. I have read many reports where analysts have noted falling inventory levels and expect that we are seeing a low in steel prices. All the while, the spot market for steel keeps bleeding and the market as always is a better barometer of economic health than any model built by analysts. I am concerned that lower economic production (and the potential for US or even global recession) could continue to put pressure on steel prices and reduce the quantity demanded which could in turn lead to severe pressure on steel stocks.

There are obviously other opinions which are necessary in order to make a true efficient market. Some theorize that a falling US economy would cause weakness in the US dollar which would make our exports more attractive and beef up the international demand for US produced steel. Others suggest that industrial construction (as opposed to residential construction and the automotive industry) will continue to be robust through 2008 and add enough demand to stabilize steel prices.

While I won’t pretend to know exactly where the economy will turn over the next several quarters, the steel names seem to be trading weak as a group, and there are fundamental reasons why this makes sense. I don’t see the pressure being alleviated anytime soon and have continued to trade around a small short position in NUE. My stops are in and I will be disciplined to cut losses short, but this appears to be a good spot to play the potential for additional slippage in these names.

Disclosure: Author has a short position in NUE

NUE 1-yr chart