After the Fall: A Value Choice in Base Metals and Steel (RIO, VALE, BHP, X, NUE, STLD, MT, FCX, SCCO, AA)

The single most important word in world markets for base metals and steel is “China.” With the slow-motion economic recovery in the global economy, the expected 8% or so growth in Chinese GDP will have to float the boats of many mining and steel-making companies this year.

A recent spate of iron ore delivery cancellations in China is being carefully watched for signs of near- and medium-term demand. If the shipments are replaced by new orders at lower prices, that signals at least a neutral market. If the shipments are not replaced by new orders, that indicates even weaker demand from China. Iron ore producers like Rio Tinto plc (NYSE: RIO), Vale S.A. (NYSE: VALE), and BHP Billiton Ltd. (NYSE: BHP) are all reasonably upbeat on Chinese demand for iron ore.

Steel makers are in a similar position, which production outstripping demand, cancelled orders, and the expectation of a price war on the horizon. United States Steel Corp. (NYSE: X), Nucor Corp. (NYSE: NUE), Steel Dynamics Inc. (NASDAQ: STLD), and ArcelorMittal (NYSE: MT) face poor overall demand and are making only small capital investments in production facilities. If there is some good news for non-Chinese steel makers it is that price differentials for China’s steel are closing slightly as higher wage costs and lower steel prices are affecting Chinese margins.

Among base metal miners including copper producers like Freeport-McMoRan Copper & Gold Inc. (NYSE: FCX) and Southern Copper Corp. (NYSE: SCCO) and aluminum maker Alcoa Inc. (NYSE: AA) pricing is just as tight and depend just as much on improving demand from China. The implied demand for copper for the rest of this year was down -6.8% month-over-month in April. Aluminum demand is expected to grow over the next five years, again mostly from China. But the biggest trend in aluminum is consolidation, never a sign that the market is getting stronger.

Our look at these companies is focused on trying to figure out whether or not low share prices are an opportunity to grab some value or whether current prices are a value trap. What seems most likely is that expectations of a near-term turnaround in share prices are probably wishful thinking, but, as with all commodities, the cycle will return to higher prices. The only question is when.