Traders See Pain Train Arriving For The Steel ETF

Few non-leveraged sector and industry exchange-traded funds can rival the weakness exhibited by the Market Vectors Steel (ETF) (NYSE:SLX) this year.

The steel ETF is down nearly 38 percent. In the essence of fairness, it should also be noted that the SPDR S&P Metals and Mining (ETF) (NYSE:XME), which allocates a significant chunk of its weight to steel stocks, has been much worse than SLX with a 2015 loss of 47.5 percent.

With those data points in mind, it might seem like a death wish for a trading account to become involved with a metals and mining ETF of any type, let alone one that is heavy on gold miners, coal miners and steel producers; XME allocates nearly half its weight to steel stocks and such stocks comprise half of the fund's top 10 holdings.

More Downside Ahead?

Despite an average year-to-date decline of nearly 43 percent for XME and SLX, short sellers are being relentless in their attacks on steel equities, indicating these ETFs and their components could be in for more near-term downside.

The tough operating conditions have seen short sellers circle around steelmakers, with global steelmaking firms tracked by Markits short interest data seeing a 50 percent increase in the demand to borrow their shares since the start of the year. The increase takes the demand to borrow to past the 3 percent of shares outstanding mark, something which the sector hasnt seen since the start of 2013, according to Markit.

Markit data reveal that average number of shares of global steelmakers out on loan to short sellers is up 50 percent to 3 percent from 2 percent two years ago. Short interest in ex-U.S. steelmakers is relevant when discussing SLX because that ETF allocates just 40 percent of its weight to U.S. companies. Just three of the ETF's top 10 holdings are American companies.

Making matters worse for SLX is a more than 18 percent weight to Brazilian companies, including a nearly 11 percent allocation to that country's iron ore giant Vale SA (ADR) (NYSE:VALE). Vale's New York-listed shares are down 56.7 percent year-to-date and residing slightly over $3; a reverse split cannot be ruled out.

Still, data suggest short sellers are particularly fond of North American steelmakers and iron ore producers.

North American firms, which have had to contend with the recent rising dollar, are top on the short sellers shopping list as American firms make up the four global steel firms with more than 20 percent of their shares out on loan, added Markit.

Nearly all of the 30 stocks found in the $241.8 million XME are North American companies.

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