Shares of U.S. Steel (X -0.90%) have been red-hot over the past year, surging nearly 60%. Driving those gains has been a significant improvement in the company's earnings due to higher steel prices. In the first quarter, the steelmaker reported $57 million, or $0.32 per share, of adjusted earnings, which was a vast improvement from the adjusted loss of $145 million, or $0.83 per share, it reported in the year-ago quarter.
The main driver of that improvement has been an uptick in steel prices, which is due primarily to the Trump administration's decision to impose tariffs on steel. While those tariffs will likely act as a tailwind to steel prices in the near term, the resulting higher prices, when combined with a brewing trade war, could slow the global economy and impact demand for steel, which could affect U.S. Steel's stock going forward.
Image source: Getty Images.
The bull case for U.S. Steel
Steel prices have improved significantly over the past year on the threat of tariffs. As the following table shows, this uptick has enabled U.S. Steel to realize higher prices on the types of steel it sells:
|
Product |
$ per Net Ton in 1Q18 |
$ per Net Ton in 1Q17 |
Year-Over-Year Change |
|---|---|---|---|
|
Flat-Rolled |
$740 |
$719 |
3% |
|
U.S. Steel Europe |
$707 |
$594 |
19% |
|
Tubular |
$1,387 |
$1,097 |
26% |
Data source: U.S. Steel.
Shipments have also improved, increasing 5% year over year in the first quarter due to a stronger global economy. On top of that, U.S. Steel has been working hard to drive out costs and improve operations via its Carnegie Way plan, which has included using its increased profitability to pay down debt and reduce interest expenses.
U.S. Steel currently believes that those three tailwinds will grow stronger over the course of the year. Because of that, the company estimates that its adjusted EBITDA will rise from $255 million in the first quarter to $400 million in the current quarter before averaging about $550 million in the second half of the year.
At that earnings run rate, U.S. Steel's stock sells for a mere 3.5 times its enterprise value to EBITDA. For comparison's sake, that's about half the level of rival Nucor (NUE 0.31%), suggesting that U.S. Steel's stock could have much further to run if steel prices and demand hold up.
Image source: Getty Images.
The bear case for U.S. Steel
While steel prices have improved as a result of the tariffs levied by the Trump administration, this has ignited a global trade war. China and Europe have added tariffs to other goods in response, causing the U.S. to reciprocate. These announcements are yielding new threats, with President Trump recently proposing a 25% tariff on imported cars and car parts.
This war could end in any number of ways. On the one hand, countries could agree to suspend the tariffs and address the issue that caused them in the first place, which was that some nations dumped steel on the U.S. at below-market prices. That hurt the profitability of U.S. Steel, which led the company to join the crusade to get the tariffs put into place.
On the other hand, the U.S. could wave the white flag and step back its tariffs on steel and other products to avoid doing damage to the economy. That action would likely cause steel prices to plummet, taking U.S. Steel's stock with it. Another possibility is that the trade war could continue escalating with counties putting new tariffs in place on more goods, which could significantly disrupt global trade and demand for products. For example, Trump's proposed tariffs on imported cars would increase the price of new vehicles in the U.S., which could slow sales. This slowdown would eventually impact steel demand, likely causing prices to fall.
Those last two outcomes would weigh heavily on U.S. Steel's stock. Shares have already come well off their highs from earlier in the year due at first to concerns that the U.S. would delay the steel tariffs and then more recently as a result of growing trade war fears.
Not worth the risk
If steel prices rose due solely to improving demand for steel, then U.S. Steel's stock would look like a compelling buy on valuation alone. However, since the big driver of steel prices are the tariffs -- which could go away or erode demand -- I don't think the stock is a good one to buy right now. Not only could shares take a tumble if steel pricing and demand take a hit, but there are better steel stocks out there that have proven that they can do just fine at lower steel prices.
