Shorting a sector like steel stocks may seems like a good idea on the surface these days given recent macro events and the cyclical nature of the industry. But the better strategy might just be to continue to ride the trend instead.
And that involves AK Steel Holding Corporation (NYSE:AKS) and ArcelorMittal SA (ADR) (NYSE:MT). It’s time for a pairs strategy shorting AKS and buying MT stock using the options market for stronger risk-adjusted returns.
Let me explain.
Steal This Steel Stock Short: AKS Stock
It’s been a good year for many steel producers, but not for AK Steel investors. Shares of AKS are off 35% in 2018 despite steel prices near ten-year highs. One could try to blame the woeful performance on escalating trade tensions and uncertainty over industry tariffs. But the fact of the matter is 2017 was no better for AKS. Actually, last year’s decline of 45% was slightly worse.
So, what gives? Profits or a lack thereof is one likely concern as the cyclical upturn for the steel industry has failed to grow AKS’ own bottom-line. But there’s more to it. There have been pricing pressures in AKS’ core market due to larger competitors like Nucor Corporation (NYSE:NUE), weak spot exposure and even talk of a potential equity offering.
AKS Stock Weekly Chart
Let’s look at how those factors have affected the price chart. Technically, it looks as though AKS stock isn’t finished heading lower. Over the past three months shares have been consolidating laterally. With the narrowing price contraction sitting below key Fibonacci levels, near two year lows and stochastics looking bearishly supportive, AKS is perfect for shorting this bearish trend.
AKS Stock Options Strategy
Reviewing the options market for AKS, in this steel stock purchasing the slightly out-of-the-money September $4 put for 25 cents looks attractive. If we’re right and AKS stock does breakdown from its current trading range, this contract will be immediately in-the-money. And with risk contained to about 6% of the share price and three months of contract life; this looks like a smarter alternative to shorting AKS outright.
A Steal of a Steel Stock for Bulls: MT Stock
ArcelorMittal has a massive international presence in the steel market. And with uncertainty surrounding China, the world’s biggest producer, exporter and consumer of steel, it’s not too surprising MT stock has come under some pressure. Shares of MT are off roughly 12% this year. But that’s where I’m drawing the line in the sand… well on the price chart.
Looking at the provided weekly view of this steel stock, readers can see the weakness over the past few months now has MT challenging key uptrend support. However, with the 38% Fibonacci retracement roughly 7% below current prices and a couple other levels worthy of establishing a wider support zone, calling a precise bottom is foolhardy.
Nevertheless, with stochastics oversold and MT stock offering a liquid options market, this is a nice enough opportunity to steal value off and on the price chart.
MT Stock Options Play
Reviewing this steel stock’s options, one favored strategy is purchasing the September $30 / $33 bull call spread for up to 80 cents. With MT stock at $28.37, shares will need to ultimately reverse and begin to reaffirm the uptrend before any intrinsic value is realized.
But with this spread also containing risk to about 3% and given our technical outlook, this play is not only fully-aligned with our expectations, it also offers a very decent return of $2.20 or 275% without trying to time a bottom perfectly.
Disclosure: Investment accounts under Christopher Tyler’s management do not currently own positions in any securities mentioned in this article. The information offered is based upon Christopher Tyler’s observations and strictly intended for educational purposes only; the use of which is the responsibility of the individual. . For additional market insights and related musings, follow Chris on Twitter @Options_CAT and StockTwits.
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