Bargain Hunting for Steel Stocks (SLX, RIO, VALE)

Oversupply and diminishing demand that began with the financial crisis caused steel prices to slump and crushed the steel stocks.

The Market Vectors Steel ETF (NYSE:SLX) once traded as high as $114.12 in 2008 before crashing to a low of $20.21 a few months later. Over the last few years the ETF has been on somewhat of a roller coaster and is currently trading at $47.65 per share.

With the ETF trading well below the pre-crisis highs, the entire sector can be viewed as a bargain compared to the overall market. The bears will argue that demand has not come back to pre-crisis levels and that the slowing Chinese economy will continue to hurt steel prices.

The recent action in SLX has caught the attention of the market and if the risk-on trade is the strategy of choice for the remainder of the year, the ETF could be a big winner. The ETF has rallied 30 percent in the last four months, but remains down by two percent on the year.

A plus for SLX is its global exposure, the U.S. only makes up 39 percent of the portfolio. Brazil, Luxembourg and the U.K. account for just over half of the ETF. The top two holdings are Rio Tinto Plc (NYSE:RIO) and Vale SA (NYSE:VALE) and each make up 12 percent of the ETF.

The World Bank expects higher steel prices in 2013 and 2014, recently raising their price target for this year to $134 per ton and $135 next year. A large factor in the future steel price is the demand from China. If the government can keep the country growing above seven percent, it should be enough to help keep a floor under prices.

There is also the global manufacturing and auto industries. Autos have been strong and demand for vehicles is at a multi-year high. Manufacturing is making a comeback, but the trend must continue to improve. In the end, it comes down to the global economy and if it can keep up recovering.

Any stumble and the steel stocks will be hit hard.

Technically speaking, SLX could be in the midst of a short-term pullback after a parabolic rise from the low in June. Look for important support at the $44.50 area and resistance at $51 per share. Also keep an eye on the overall global economic situation.