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Know the Real Dynamics of Steel

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Whether they know it or not, all investors are amusement park fanatics.

After all, what other demographic so routinely volunteers to be strapped in to one adrenaline-pumping ride after another?

Casting a studious eye toward the critical industrial foundation of the U.S. economy, however, Fools gain an ounce of preparation for the next big turn in the ride. This requires a commitment to focus one's gaze where others do not: at the array of telltale clues from companies and sectors we may not be accustomed to watching.

Steel Dynamics (Nasdaq: STLD  ) may not be on the tip of every investor's tongue, but Fools may be hard-pressed to comprehend the real dynamics of the domestic industrial base without scrutinizing the results and outlooks that emerge from bellwether steelmakers like this one.

Study the dynamics
To glean maximum insight from the company's latest earnings report, we need to consider where steel's roller coaster has been recently. After the initial, terrifying paralysis of American industry that characterized the financial crisis through mid-2009, a palpable phase of inventory restocking restored profitability to Steel Dynamics and smaller operators like AK Steel (NYSE: AKS  ) .

With this improvement to the steelmakers' business environment came accumulating expectations for recovery, and a solid round of earnings for the first quarter of 2010 took this ride to fresh heights of optimism. A resounding chorus of corroboration from railroad operator Norfolk Southern (NYSE: NSC  ) , heavy-equipment manufacturer Bucyrus (Nasdaq: BUCY  ) , and other bellwethers even had this cautious Fool enjoying a fleeting moment of hope before doing a double-dip double-take.

Know Steel Dynamics
Simply stated, decoupling remains the unfortunate law of the new industrial world order. Recent earnings reports from POSCO (NYSE: PKX  ) and Peabody Energy (NYSE: BTU  ) confirm the barely interrupted growth trajectory of pan-Asian industrial demand. By contrast, Steel Dynamics witnessed a disappointing 10% sequential decline in steel shipments from that upbeat first quarter.

Steel Dynamics reported a 24% sequential decline in net income from the first quarter despite a nearly 13% sequential increase in realized steel prices. The company shipped 15% fewer flat-rolled products, which had provided a source of noteworthy strength since structural steel became mired in this construction-sector free-fall. Speaking of construction, Steel Dynamics' fabricated products segment, which produces systems of steel decks and joists for use in non-residential construction, suffered another operating loss despite a strong sequential advance in sales volume. The decision by Commercial Metals (NYSE: CMC  ) to dismantle its comparable segment appears well-founded.

Observing a telltale shift from relative strength to renewed weakness, Steel Dynamics Chairman and CEO Keith Busse offered this sobering assessment:

Structural steel volumes have seen some improvement, but our structural mill is still running at a relatively low capacity-utilization rate of less than 40 percent. Although the economy has slowly improved over the past few quarters, at this point we are cautious about the outlook for the second half.

At this point, this Fool is more than merely cautious about the second half. I feel like I'm strapped in to a roller-coaster ride that has just ratcheted its way up another steep climb to nowhere, and I worry the tracks ahead will lead the U.S. industrial base sharply into unwelcome weakness.

Steel Dynamics enjoys a dynamic following of 976 members of the Motley Fool CAPS community. More than 96% of members' picks anticipate the company outperforming the S&P 500. To cast your own vote and see what fellow investors are saying, join the free online community of investors today.

Fool contributor Christopher Barker is the Nat King of Coal and the wild boar of iron ore. He can be found blogging actively and acting Foolishly in the Motley Fool CAPS community under the user name TMFSinchiruna. He tweets. He owns shares of Peabody Energy. Try any of our Foolish newsletters today, free for 30 days. The Motley Fool has a stainless disclosure policy.

Read/Post Comments (1) | Recommend This Article (20)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On July 22, 2010, at 8:59 AM, KurtEng wrote:

    It is a roller coaster ride, but it seems that steel is near the bottom of a hill right now. I think now is a good time to buy for investors that are willing to hold on for at least two years.

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