Surprise! U.S. Steel Isn’t as Vulnerable to Tariffs as Feared.

U.S. Steel is wrapping up a great year thanks to still-strong, organic demand

The Effects of Steel and Aluminum Tariffs Hinge on Trump's Negotiation Skills

Source: Dayne Topkin Via Unsplash

It’s admittedly a paradox. Although United States Steel (NYSE:X) is on the verge of logging its best full-year revenue since 2014 and its most profitable year since 2008, X stock itself just came up and off multi-year lows after falling more 60% from its March peak.

The explanation for the mismatched trends isn’t terribly tough to come up with. Fear about the impact of new tariffs on steel imported into the United States — mostly fear of the unknown — drove U.S. Steel stock along with peers like AK Steel (NYSE:AKS) and Century Aluminum (NASDAQ:CENX) sharply lower. But, by and large, those tariffs created their intended result. That is, U.S.-based providers like AK Steel and U.S. Steel have enjoyed more pricing power without facing a demand headwind. The economy remains rather robust, even if the auto-making industry has cooled.

To that end, one overarching question surfaces … if what should have been bullish for U.S. Steel stock was actually bearish, might what is arguably supposed to be bearish end up serving as a tailwind for X stock?

More Good Than Harm

Only in retrospect has it become evident that too many investors were looking at the matter through a one-dimensional (and probably a politically charged) lens.

Certainly a shakeup of how the nation conducts business with China, its most important trade partner, primarily by the hand of polarizing President Donald Trump was an uncomfortable development for some. Although most everyone agrees the heavy tariffs China imposes on U.S. goods sold in China are less than fair, not everyone agreed now was the right time to push back.

Trump pushed back anyway.

The end result thus far hasn’t given critics much to complain about. Nucor (NYSE:NUE) and Steel Dynamics (NASDAQ:STLD) are both expected to report record annual earnings once their fourth-quarter numbers are posted.

Although generally closer to the beginning of the supply chain than Nucor and Steel Dynamics, AK Steel and U.S. Steel aren’t having bad years either. U.S. Steel, for instance, is on pace to beef up its top line by nearly 17% for fiscal 2018, driving a huge profit increase. Both are expected to continue improving through next year, even at a more moderated pace.

That’s because prices for raw steel and finished steel products are firm, and demand isn’t yet abating … with the ‘and’ being the operative word of that explanation.

Prices for hot-rolled steel sheets are up nearly 70% since their January low, and remain within reach of the multi-year high hit in September despite falling roughly 20% in the meantime. Noteworthy is that prices for China’s still fell to a similar degree at the same time, suggesting the country most targeted by 2018’s import tariffs is finally starting to feel a pinch.

And, as of October, the World Steel Association predicted 2018’s consumption of steel would roll in 3.9% higher than 2017’s tally, and then grow another 1.4% in 2019. Moreover, that outlook was offered before prices broadly fell, which may in fact facilitate even more consumption provided the global economy sidesteps a recession.

Looking Ahead for X Stock

Fast-forward to this week.

Although it will be a far-from-finalized end to the tariff war, this week, representatives from China and the United States are meeting to discuss trade. China, undeniably feeling the impact of new tariffs more than U.S. companies are — despite their lamentations — is likely ready to deal.

What that may mean for companies like Century Aluminum and U.S. Steel isn’t clear. Realistically speaking, Trump will secure some, but not all, of the concessions he’d like to see take shape. That will make China’s steel more competitively priced again, but also stands to rev the global economy’s engine again as well.

That’s the rub for investors … determining where the optimal balance between protectionism and hands-off policies apply.

The initial assumptions were clearly largely wrong. The tariffs gave U.S. steel and material companies the pricing power they’ve craved without quelling the economy … at least not yet. In that same vein, one can’t help but wonder if a palatable end to the tariff war (the end so many investors say they want) could actually do more harm than good to metals stocks.

Then again, the facts of the matter haven’t been terribly relevant. Most of these names have been walloped on what have been erroneous assumptions. There’s no reason that can’t rebound on equally erroneous but opposite assumptions.

Or, perhaps with X stock trading at only 5.5 times its trailing earnings and less than 4 times its forward-looking profits, shares are in a position to rebound no matter what lies ahead.

Or maybe, just maybe, U.S. Steel’s bottom line has far less to do with tariffs and far more to do with the economy than most investors are able to believe. After all, roughly 75% of the requests steel importers made to exclude their foreign steel purchases from 2018’s new tariffs were granted by government regulators. The United States’ steel companies have been doing just fine anyway.

As of this writing, James Brumley did not hold a position in any of the aforementioned securities. You can follow him on Twitter, at @jbrumley.


Article printed from InvestorPlace Media, https://investorplace.com/2019/01/surprise-u-s-steel-isnt-as-vulnerable-to-tariffs-as-feared/.

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