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China has an influential role to play in steel and iron ore (steel's major raw material) markets since it is the largest producer and consumer of both commodities. Since the world's second-largest economy is facing one of the most severe phases of economic slowdown after the global financial crisis of 2008-09, both steel and iron ore industries have been moving along their downward trajectories. We remain cautious about both these industries in the short-term, but feel that Cliffs Natural Resources (NYSE:CLF) is currently the best iron ore play. In addition to CLF, VALE S.A. (NYSE:VALE), Rio Tinto (NYSE:RIO) and BHP Billiton (NYSE:BHP) are good iron ore investments for the long term, in a decreasing order of preference. Among steel players, Nucor Corp. (NYSE:NUE) and Steel Dynamics (NASDAQ:STLD) remain our top picks for long-term investors.

Baoshan Steel Cutting Production

China's largest steelmaking company, Baoshan Iron & Steel Co., has suspended production at a loss-making plant, as a result of demand drop for slabs, which are used to make bridges and ships. According to the company, the stoppage was a consequence of "a downturn in demand in the downstream slab market", and so the production has to stop so as to avoid an increase in operating losses.

According to Kuni Chen, an analyst at CRT Capital Group LLC, "The bigger issue is not what this one mill represents, but at prices at this low level, all the mills are under pressure. I'd expect to see more production shuts, but this becomes a vicious cycle where production declines, then raw materials decline, and steel prices continue to decline."

Chinese Iron Ore Miners Suspending Operations

As a result of very low prices for iron ore, almost 40 percent of Chinese mining companies have halted operations to prevent making losses. Chinese iron ore miners have been the major sufferers as a result of their high-cost production relative to the big mining giants, BHP Billiton , Rio Tinto and Vale S.A. .

However, the situation is less severe outside China as Brazil's Vale is moving along with its projects and not cutting production like its Chinese peers. RIO and BHP's management, too, is bullish about a long term recovery in Chinese iron ore demand.

Investment Advice - Iron Ore

Although investment in Chinese iron ore miners is not recommended, we remain bullish about iron ore giants in the long-term, especially VALE, RIO, and BHP. Our favorite stock to play iron ore's rebound remains Cliffs Natural Resources . This is because it is the most inexpensive stock amongst its peers, and given the fact that it is not a big mining giant like its peers, increasing production (even at such severe times) will not lead to a further downward impact on iron ore prices, but would rather decrease its marginal costs of production. Its dividend yield might be unsustainable, but otherwise, the stock has plenty of upside to offer for long-term investors.

 

CLF

VALE

RIO

BHP

Forward P/E (1 year)

6.34x

6.16x

6.39x

12.16x

Dividend Yield

6.40%

6.40%

3.10%

3.40%

Share price Performance (YTD)

-36.49%

-16.03%

-4.29%

-2.79%

Source: Yahoo Finance

Investment Advice - Steel

We continue to remain cautious about the Steel Industry in the near-term, as a result of uncertainties currently surrounding the global industry dynamics. Nucor Corp. and Steel Dynamics remain our best bets as they will continue their outperformance when the industry rebounds because of better balance sheets and operational efficiencies. We remain neutral-rated on AK Steel (NYSE:AKS) because of its highest beta to steel prices and on U.S. Steel Corp. (NYSE:X) because of its high fixed cost structure. Please read our previous article to find out the reasons behind the thesis on these four steel companies.

 

NUE

STLD

AKS

X

Forward P/E (1 year)

11.9

8.13

4.51

5.08

Price/Book (MRQ)

1.61

1.05

N/A

0.79

Share price performance (YTD)

-3.71%

-14.75%

-41.89%

-27.85%

Source: Yahoo Finance

Source: 2 Steel Stocks And 1 Iron Ore Stock To Buy