When it comes to construction, iron, and steel are essentials. Most structures, including roads, bridges, tunnels, stadiums, skyscrapers, airports, other infrastructure, appliances, cars, ships, buildings, and many other products, contain iron and steel. Concrete structures have steel reinforcements. Steel can be recycled without any significant loss.
Steel is sturdy, so it can resist damage caused by natural disasters. Steel buildings are more resistant to fire or termite damage. Steel’s properties make it one of the most widely used engineering and construction materials. Weldability, hardenability, machinability, workability, wear resistance, corrosion resistance, yield strength, and tensile strength are the characteristics of the metal.
As the demand for new construction and infrastructure building, repairs, and refreshing increases, steel requirements rise. The VanEck Vectors Steel ETF product (NYSEARCA:SLX) holds shares in many of the world’s leading steel and iron ore producing companies. At the end of 2020, the ETF was trading at close to its highest level of the year, and the prospects are for more gains in 2021.
Approximately 98% of the iron ore extracted from the earth’s crust is used to make steel. Coking coal, a source of carbon, is a critical raw material in steel production.
The world’s leading iron ore producing country is Australia. In 2019, Australian output amounted to 930 million tons. Rio Tinto (RIO) and BHP Group (BHP) were the leading producing companies in Australia. Brazil was second with 480 million tons, the majority produced by VALE SA (VALE), the Brazilian mining giant. Problems with a dam collapse in 2019 and production issues stemming from the COVID-19 pandemic limited Brazil’s production in 2020. The iron ore market experienced tight supplies over the past years. After a spike to a low of just over $60 per ton in April 2020, the price exploded to over the $155 level as of December 29.
The chart shows that iron ore has made higher lows and higher highs since late 2015. The all-time high came in 2008 at just below the $200 per ton level. In 2011, when many commodities reached multi-year highs, iron ore moved to a slightly lower peak of just over $187 per ton.
Supply issues have been pushing iron ore’s price higher in 2020, but the fundamental equation’s demand side remains strong.
Iron ore prices are at a seven-year high at the end of 2020 because of surging Chinese steel demand. Platts estimates China’s crude steel capacity will increase by 27 million metric tons to 1.284 billion metric tons by the end of 2021. Property and infrastructure combine to account for over 55% of Chinese steel consumption.
The chart shows that the price of steel FOB China rose to a high of $674 in December 2020, 82% higher than the April low. Tight iron ore supplies and increasing Chinese demand have created a potent bullish trend in the steel market as we head into 2021.
While analysts project Chinese steel demand to continue to rise in 2021, the end of the global pandemic would likely cause the demand to increase in other parts of the world. While iron ore output from Brazil should return to pre-pandemic levels, explosive demand could outpace the increase from the world’s second-leading iron ore mining country.
Meanwhile, any infrastructure rebuilding project in the United States would only further tighten the supply picture for steel as it is a primary ingredient for construction. The US’s crumbling roads, bridges, tunnels, airports, government buildings, schools, and other infrastructure parts will require massive amounts of steel in the construction process. As the US economy emerges from the financial fallout of the COVID-19 pandemic, there is likely to be bipartisan support for a program that creates jobs and government contracts for struggling businesses. Meanwhile, the booming market for new home construction adds another dimension for steel and other construction materials.
The US Midwest Steel price has already risen above the 2011 and 2018 highs. A falling US dollar, low interest rates, and the tidal wave of central bank liquidity, and government stimulus have planted the inflationary seeds of the future. The legacy of monetary and fiscal policies to stabilize the economy during the pandemic will remain as a legacy of the coronavirus for the coming years.
The VanEck Vectors Steel ETF product (SLX) holds a portfolio of the world’s leading steel producers, including:
Source: Yahoo Finance
The chart shows that the ETF has an almost 20% exposure to Vale SA and Rio Tinto, the companies that extract iron ore in Brazil and Australia. The fund summary for SLX states:
Source: Yahoo Finance
SLX has net assets of $55.58 million, trades an average of 33,046 shares each day, and charges a 0.56% expense ratio. The ETF has a blended dividend yield of 2.63% as of the end of 2020. The yield covers the expense ratio for holders who remain in the product for one quarter.
The chart shows that SLX rose from a low of $17.61 in March as the pandemic created risk-off conditions in the stock market to the $44.50 level on December 29. The first level of technical resistance stands at the May 2018 high of $51.92. Above there, the 2011 peak was at $77.42 and the 2008 high at $114.12.
Increasing global demand for steel, inflationary pressures, a falling dollar, and the end of the pandemic in 2021 could create a bullish cocktail that keeps the rally in steel going over the coming years.
The Hecht Commodity Report is one of the most comprehensive commodities reports available today from a top-ranked author in commodities, foreign exchange, and precious metals. My weekly report covers the market movements of over 20 different commodities and provides bullish, bearish, and neutral calls; directional trading recommendations, and actionable ideas for traders.
This article was written by
Andy spent nearly 35 years on Wall Street, including two decades on the trading desk of Phillip Brothers, which became Salomon Brothers and ultimately part of Citigroup.Over the past two decades, he has researched, structured and executed some of the largest trades ever made, involving massive quantities of precious metals and bulk commodities.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Additional disclosure: The author always has positions in commodities markets in futures, options, ETF/ETN products, and commodity equities. These long and short positions tend to change on an intraday basis.