Fears about China draw shorts to steel stocks
Wed Mar 16, 2005 12:25 PM ET
(Updates with steel index activity in paragraph 9)
By Reshma Kapadia
NEW YORK, March 16 (Reuters) - China's plans for increased steel capacity are starting to attract interest from short sellers betting that U.S. steel stocks and prices have had their last hurrah.
Investors snap to attention at the mention of China, which consumes a quarter of the world's steel. The nation's demand for raw materials fueled the recent surge in commodity prices, but some investors are now concerned its plans to ramp up steel-making capacity could have the opposite effect.
"I think we have seen the peak" in steel prices, said Longbow Research analyst Chris Olin. "We continue to think there is downside to prices based on the Chinese factor. We have seen a small amount of capacity come on line, and it looks like most of it is planned for second-half of 2005 and 2006."
As concerns grow that China could become a steel exporter rather than an importer -- and emerge as a low-cost rival to U.S. companies -- some investors are beginning to seek cover.
A handful of U.S. steel stocks has recently attracted the interest of short sellers, or investors who bet against the market and who profit when a stock falls.
The largest dollar-value short last month was for United States Steel Corp. (X.N: Quote, Profile, Research) at about $903 million, followed by $767 million for Nucor Corp. (NUE.N: Quote, Profile, Research) , according to a research note from Prudential analyst John Tumazos.
"What strikes me about Nucor is that the short interest is higher than it was most of 2004, and it's at one of its three highest levels in last 12 months," said Bill Rhodes, founder of Rhodes Analytics. "For U.S. Steel, it went from 10 million shares of short interest in August to about 14 million now."
In the 30 days ended on Feb. 15, shorting occurred in 11.6 million, or 11.7 percent, of the publicly traded shares of AK Steel Holding Corp. (AKS.N: Quote, Profile, Research) and about 5.7 million, or 15 percent, of publicly traded Steel Dynamics Inc. (STLD.O: Quote, Profile, Research) shares. On average, most companies have about 3 percent of their public float shorted.
The Dow Jones U.S. steel index was down 3 percent at $172.60 in afternoon trading. The index has been falling since peaking at $192.20 on March 4.
PEAK OF THE CYCLE?
"The market still has very strong expectations for the industry today," Longbow's Olin said, "and given the trend in steel prices, we think definitely there is a risk to stock prices ... on the assumption the cycle might be turning over."
Near-term concerns for the U.S. steel industry include production cuts from the automakers and higher inventory in supply chains, but increased capacity and China weigh on investors in the long-term, analysts said.
"Whether capacity is built in Bethlehem, Pennsylvania, or in China, it is still capacity expansion in very cyclical industries, and it still comes on line at the peak of the cycle," Merrill Lynch investment strategist Rich Bernstein wrote in a research note. "Lower commodity prices undoubtedly lie ahead."
He warned investors not to buy the hype about China changing the way cyclicals work.
While demand from China may have extended the cycle, these stocks will still act in the same manner and it looks like steel stocks are "pretty much close to the peak," added Prudential Chief Investment Strategist Ed Keon, who is neutral on the materials sector.
Permanent Portfolio fund manager Michael Cuggino said steel may be more vulnerable to talk of increased capacity in China than are other commodity stocks, such as copper and oil, because it takes longer to find and extract oil and minerals than it does to build a steel plant.
Cuggino, who thinks commodity stocks offer a good longer-term play, holds shares of Chevron Texaco (CVX.N: Quote, Profile, Research) and Phelps Dodge Corp. (PD.N: Quote, Profile, Research) in his fund.
"I think (steel) was a good idea for a long time," Keon said, "but I hope people aren't staying too long at the party
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