U.S. hot-rolled coil steel prices recently hit all-time highs of $1,300 per short ton.
Bank of America analyst Timna Tanners said Wednesday that record prices will generate huge profits for steel mills in the first half of 2021. Heading into first-quarter earnings season, Tanners said investors will be watching closely for indications from management about how steel companies will be spending their excess cash.
Excess Cash: Tanners said some companies will obviously use the near-term cash windfall to pay down debt and improve unhealthy balance sheets. However, she said companies with healthy balance sheets, such as Nucor Corporation (NYSE: NUE), Steel Dynamics, Inc. (NASDAQ: STLD), Reliance Steel & Aluminum Co (NYSE: RS) and Ternium SA (NYSE: TX), have several options for how to allocate that extra cash.
One likely scenario is they will use a significant portion of it to fund working capital growth for downstream operations, Tanner said. She added that management may be hesitant to spend the cash on buybacks given the steel market appears to be at or near a cyclical peak. That same line of reasoning could discourage M&A deals in the near future given the current steel environment is a seller’s market.
“While we think M&A could heat up, aided by low interest rates and plentiful cash, we see limited options for mills and likely more downstream processing and bolt-on growth, such as NUE’s recent pipe mill or a new galvanizing or paint line, typically ~$250-300M,” Tanners said.
How To Play It: Tanners is projecting steel prices will trend “sharply lower” in the second half of 2021.
Bank of America has the following ratings and price targets for the steel stocks mentioned:
- Nucor: Underperform rating, $56 price target.
- Steel Dynamics: Neutral rating, price $49 target.
- Reliance Steel: Buy rating, $167 price target.
- Ternium: Buy rating, $44 price target.
Benzinga’s Take: All four steel stocks mentioned are up at least 45% in the past six months, so the excess cash flow Tanners is expecting in the first half of 2021 may already be priced into the stocks to a large degree.
The big question for steel stock investors is when steel prices start to pull back and how deep that pullback will be.
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