Don’t Count Out Flatlining Materials Stocks Yet

by Jeff Reeves | August 9, 2012 6:00 am

Don’t Count Out Flatlining Materials Stocks Yet

best stocks for 2012 logo Don’t Count Out Flatlining Materials Stocks Yet[1]It’s been a month since Alcoa (NYSE:AA[2]) reported earnings. The stock is up less than 1% since its Q2 report[3]. It’s been eight months since I endorsed AA as the best stock to buy for 2012[4]. It’s up slightly under 2% as of this writing.

I personally own Alcoa stock. And as a long-term investor, I am sticking with it. I remain convinced that cyclical materials stocks — including aluminum giant Alcoa, copper king Southern Copper Corporation (NYSE:SCC[5]) and steel leader Nucor Corp. (NYSE:NUE[6]) — could be very wise buys in the months ahead.

Maybe not right this moment, of course. The short-term is rough — and I actually think there’s a lot to be said for sitting on your hands until Thanksgiving[7]. And base metal prices remain pretty depressed still. But you may want to consider watching materials stocks for an entry point a month or two down the road.

Why? Here are three big reasons:

Dollar’s Strength Won’t Last

The euro has collapsed almost 20% in the last year, near lows not seen since 2000.  The Japanese yen continues to languish, as does the British pound. Meanwhile, despite the U.S. facing its own economic troubles and fiscal mess, the dollar continues to surge.

The greenback is attractive now because of a lack of alternatives — but that can’t last forever. If and when the dollar weakens, commodities priced in dollars — including materials like steel, copper and aluminum — will become pricier. That will help materials stocks.

Cyclical Recovery … Eventually

I admittedly jumped the gun with my hopes of a broad economic recovery this year. The rally in the markets to start 2012 faded. The addition of 250,000 jobs or so[8] each month to start the year has been reduced to a rate of 160,000 or so[9] — barely enough to offset new entries to the workforce.

But I remain convinced that better times are ahead in 2013. The housing market is healing slowly[10]. The S&P is up an impressive 11% so far in 2012 and has topped 1,400 — challenging levels not seen since before Lehman’s bankruptcy in 2008. Yes, the short term is rocky … but let’s not ring the Doomsday alarm just yet.

And after all, if you wait for solid proof of a lasting recovery then you will have missed the run-up in stocks. There’s something to be said for being first in line to cyclical stocks.

Baseline Demand and “Right-Sized” Businesses

As I explained in my initial recommendation of Alcoa in December[11], AA went through a painful transition in 2010 as it laid off 13,500 employees and shut down plants to accommodate the so-called “new normal” of the global economic environment. Nucor didn’t lay off workers — but its unique compensation model[12] where wages are tied to productivity has allowed it to pay out much less as production needs have slowed to roughly 50% of capacity.

Base metals like copper and aluminum will always be needed in decent quantities, and materials stocks have had to accommodate a weak demand and output cycle after the financial crisis and resulting recession. In my mind, that means there is very limited downside.

And if you want a bonus: Many materials stocks pay decent dividends if you’re worried about simply treading water in the short term. Nucor yields 3.5% at current pricing, and Southern Copper has a volatile dividend history but yields about 4.9% based on the last four payouts.

If you’re an active trader, don’t bother messing with these stocks just yet. There are many reasons to think the short-term headwinds will continue for materials stocks. But if you’re a long-term investor looking for tax-efficient gains in your brokerage account, I’d consider picking up one of these cyclical materials stocks on a dip in the coming months.

I’m hanging on to my Alcoa stock. Not just through 2012 but very likely into 2013 in expectation of a recovery.

Jeff Reeves is the editor of InvestorPlace.com and the author of “The Frugal Investor’s Guide to Finding Great Stocks.”[13] Write him at editor@investorplace.com or follow him on Twitter via @JeffReevesIP. As of this writing, he held a long stake in Alcoa.

Endnotes:
  1. [Image]: http://investorplace.com/best-stocks-for-2012/
  2. AA: http://studio-5.financialcontent.com/investplace/quote?Symbol=AA
  3. Q2 report: http://investorplace.com/2012/07/lackluster-alcoa-earnings-cant-take-shine-off-this-stock/
  4. best stock to buy for 2012: http://investorplace.com/best-stocks-for-2012/
  5. SCC: http://studio-5.financialcontent.com/investplace/quote?Symbol=SCC
  6. NUE: http://studio-5.financialcontent.com/investplace/quote?Symbol=NUE
  7. a lot to be said for sitting on your hands until Thanksgiving: http://investorplace.com/2012/07/7-reasons-to-stop-trading-until-thanksgiving/
  8. 250,000 jobs or so: http://investorplace.com/2012/02/stat-of-the-week-257000-new-private-sector-jobs-created-in-january/
  9. 160,000 or so: http://investorplace.com/2012/08/adp-employers-added-163k-jobs-in-july/
  10. housing market is healing slowly: http://www.cnbc.com/id/48571751
  11. recommendation of Alcoa in December: http://investorplace.com/2011/12/alcoa-aa-stock-limited-downside-high-upside-stocks-to-buy-in-2012/
  12. unique compensation model: http://www.businessweek.com/stories/2009-03-25/pain-but-no-layoffs-at-nucor
  13. “The Frugal Investor’s Guide to Finding Great Stocks.”: http://www.amazon.com/dp/B007KB9CSI/ref=rdr_kindle_ext_tmb

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