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  1. Home
  2. / Investing
  3. / Stocks

Steel Is Rising on Seasonal Demand

Lock in profits in mining stocks as demand picks up.
By MALEEHA BENGALI
Apr 10, 2019 | 06:50 AM EDT
Stocks quotes in this article: AAPL, FB, AMZN, NFLX, GOOG, GOOGL, FSUMF, RIO

As we entered the second quarter, the pace of stock price increases has slowed. It feels eery, a feeling similar to one experienced at the start of a roller coaster ride. As the carriage makes it way to the top, it gets slower and slower with the chains cranking louder and carriages feeling heavier.

As the roller coaster hits the tipping point, it comes to a complete standstill for a millisecond, before it goes weightless in total free fall with shrills being heard as thrill seekers enjoy the 400 foot drop. Stocks are making new highs every day, but the volumes are dwindling as there seems to be no conviction. It is as though we are inching towards that same turning point, although I doubt investors would resound the stock market drop with the same excitement.

This phenomenon is evident in almost every stock and sector. Even the FAANG technology stocks -- Facebook (FB) , Amazon (AMZN) , Apple (AAPL) , Netflix (NFLX) and Alphabet/Google (GOOG) , (GOOGL) -- show the same price action. They almost look tired at these levels. But Apple (AAPL) remains a huge mystery. The company profit warned in January with earnings slashed, yet the stock is up 30% since the lows.

This is the state of the entire S&P 500 market, where stocks have massively diverged against forward-looking earnings. Behold the power of central bank liquidity and company buybacks. Apple reports earnings on the April 30 and the company has already entered its blackout period; its major buyer is out of the market for now.

Commodities have had a strong performance in Q1 -- and rightly so, as China increased their fiscal stimulus at the start of the year, pushing infrastructure projects and spending. This bodes well for commodities like copper, iron-ore, and steel, where China's consumption matters the most for their demand.

We have seen that play out beautifully, but taking a step back, the bigger picture has not changed. Global macroeconomic indicators have not nudged higher, they have just stabilized. China's main focus was to neutralize the downfall seen in Q4, not to re-lever the economy, as their goal is to de-lever slowly from the excess of the last decade.

They have a debt problem and are all too aware of it. Besides, now with the Chinese market up 20% and outperforming Trump's precious S&P 500, Trump no longer has any bargaining leverage in negotiating a trade deal. One cannot tame the red dragon and the U.S. knows it. They are too smart and use delaying tactics to end the Trade War, as they know how desperate Trump is going into re-election. 

Chinese SHFE Steel Rebar futures are up 18% since the start of the year. On Monday, the futures surged higher on record seasonal demand. They key is that Chinese steel demand typically picks up towards the end of winter, with April being the peak month as it then becomes warmer. Steel is a key ingredient for construction activities and this got a boost from the January stimulus. China placed production restrictions in steel making cities like Tangshan and Handan due to smog pollution, which lent further support to steel prices. Despite this, China's average daily steel production in January to February reached 2.54 million tonnes, up from 2.46 million tonnes in December.

Iron-ore is the raw material used to make steel. By default, it will rally with steel prices, especially as demand picks up. Iron-ore suffered some production outage in January due to the dam collapse in Brazil. The market has seen declining shipments from both Brazil and Australia in March. As we near the peak of the demand season, two tailwinds that were present in Q1 will fade; namely Chinese liquidity injection and winter demand.

Fortescue Metals Group  (FSUMF)  is up 125% over the last six months. With both Fortescue and Rio Tinto (RIO) trading at close to all-time highs, this is a risky time to be long. As we enter Q2, global growth indicators are being questioned -- especially given what the bond markets are suggesting, equities seem to be at risk of selling off. The bond markets are convinced that the economy will be at low growth, hence lower rates, but equities think we have a high growth/low rate scenario forever. There seems to be a disconnect, which will not end well.

As demand eases and supply picks up, it is a prudent time to lock in profits in the mining stocks for now. It is important to realize that these commodities are not in a deficit. It is a matter of timing -- and the window in which the demand picks up and how quickly it does so. As time passes, there is enough supply to offset that increase. One should not delude themselves in calling any market "tight," as we did back in 2004 when China first started its urban revolution.

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TAGS: Commodities | Earnings | Economy | Futures | Investing | Markets | Stocks | Metals & Mining

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