Why You Might Consider Chinese Steel Stocks

“Calling the Trend” Column, by George Leong, B. Comm.

China is showing strong signs of economic renewal, which seems strange given that the country has been growing at around seven percent during the global recession. The World Bank recently raised its economic growth forecast for China in 2009 to 8.4%, versus the previous 7.2% estimate in June

The country is already increasing its GDP and is showing signs of increasing its demand for commodities. As the country grows, there will continue to be massive infrastructure and construction programs.

The country’s President, Hu Jintao, is aiming to increase the country’s domestic consumption and cut its dependence on exports. Think about it; China currently needs buyers for its goods, otherwise growth will suffer. The U.S. has been a major trading partner, but the decline in consumer spending has reduced the demand for Chinese-made goods. So, what you have are plants with excess capacity that are idling, waiting for foreign demand to rebound. This is dangerous and is a key reason why the country wants to boost its domestic consumption of Chinese goods. Longer-term, this will help China in its pursuit to become a dominant world economic power.

Infrastructure spending will continue to be significant in China, as it plays catch-up with the United States and other industrialized countries. The government has spent about $600 billion on its infrastructure and we expect this to grow.

Given the building craze in China, we are positive short to longer term on the demand for steel.

In the Chinese small-cap infrastructure area, there are numerous small companies that have above-average price appreciation potential. A company that is interesting is Beijing-China-based General Steel Holdings, Inc. (NYSE/GSI, Market-cap: 191 million dollars; Web site: www.gshi-steel.com/gshi2; Sector: Basic Materials; Industry: Steel and Iron). Keep in mind that this is only an example of a stock in this area of interest and not a recommendation to buy. Do your due diligence and consult an advisor if interested.

Founded in 1988, General Steel operates a portfolio of Chinese steel companies with a combined production capacity of about 6.3 million metric tons. The company produces a variety of steel products, including rebar, hot-rolled carbon, and silicon sheet, high-speed wire and spiral-weld pipe. Clients include oil, gas, and petrochemical markets.

The company recently entered a non-binding agreement for a controlling 60% stake in non-state owned Tangshan Baotai Iron and Steel Group. General Steel said that the deal would not only increase capacity by 1.5 million metric tons, but would also provide access to a water port. The company’s capacity would rise to 7.8 metric tons upon completion of the deal.

With $1.48 billion in trailing revenues and with annual revenues predicted to approach $2.0 billion in 2010, this small company has longer-term growth potential.

The two analysts covering the company expect General Steel to earn $0.39 per diluted share in FY09 and more than double to $0.84 per diluted share in FY10. The estimates were increased from previous estimates.

Institutions hold a small 8.7% interest in General Steel as of November 13, which is low, but is higher than the 5.2% in August. Clearly institutions have been buying the stock over the recent months. The low ownership allows investors to enter a position earlier just in case the stock attracts buying.

The stock could also get a lift if it begins to rally given the high short position of 17.9% as of November 13, up from 9.0% as of October 12. Traders are betting against the stock, which may mean it’s a good time to look.