The technical case for a short trade in NUE

NUE looks good technically only on a short term basis. Positives include – October 08 lows held in November and late feb/early march 09 retest held well above the prior lows. Its also technically positive that the recent move came on solid volume and exhibited good relative strength. The stock’s short term moving averages have also turned up. The best one should say about this chart is that the longer term downtrend has lost its momentum and the shares have perhaps (and I stress the perhaps) stopped going down so one might conclude that new lows are unlikely at this point. But even that might be presumptuous as if you view this chart on a longer term basis (like on the weekly chart) the chart looks like the primary trend is still down. The way I see it, it appears that a 5 year uptrend has reversed and a major top has been completed. There was major support in the $46 to $48 area which failed last year. That failure was subsequently retested and failed. Since then, the sell off accelerated and came on higher volume and worsened relative strength. The shares proceed to get cut in half after trading down over 50%. The whole peak to trough move took roughly 70% off the shares. The shares have since exhibited impressive support below $30 (bouncing sharply from that level a number of times). Now the action since the October low and today has measured a roughly 70% and in my opinion represents not a reversal of a primary trend but a consolidation of a hard and fast 70% peak to trough decline. The shares are up almost 70% off that October low and the latest move (since the beginning of march) equate to a roughly 38% move. And that retracement has now traced out a 3 lower highs on a weekly and coincidentally a daily.

Thus I think that taking a short trade here is a good risk/reward. On a short term basis, it stands to my technical reasoning that $37.60-$37 area is the next stop, and I expect that level to find fleeting support which ultimately fails. Given the recent momentum and sentiment shift I don’t expect this to be a lay-up so I would go small initially and/or look to cut a sizeable position in half on a move above the recent high near $44 (say $44.60), because major resistance is in the $46-$48 area. I would however lay it out in size north of $45 because I do have confidence that there would be no fundamental justification for long buyers anywhere near $45. I think NUE is the best house in a bad neighborhood and I think they’ll struggle to earn $3 in 2010, so a $4.50+/share earnings estimate for 2010 has nowhere to go but down.

Misplaced hope is Steel and Energy yields opportunity on the short side

Energy demand continues to deteriorate beyond bearish expectations, yet the ranks of the bulls have swelled as many look past near term supply demand imbalances on the idea that significant and rapid declines in rig counts will lead to equilibrium in supply and demand such that inventories will decline to levels closer to 5 year averages. I don't doubt that will ultimately happen but I do strongly doubt that it happpens as fast as most think. Furthermore, I'm confident that any recovery will be gradual and less vigorous than most suspect as I think a new normal, inconsistent with inventory levels during the recent period of strong global growth. We'll need a rapid and substantial economic recovery for crude and distillate prices to make meaningfully higher price moves and we'll need growth and hurricane related supply disruption for natural gas to find its new equilibrium anytime soon.

I continue to think that natural gas production, supply and inventories are not likely to fall as much as declines in rig counts suggest. I expect natural gas prices to remain soft until late this year and think that rallies can be significant but are likely to be short lived as fundamental support fails to manifest. Industrial demand continues to surprise on the downside. Demand from manufacturing, steel and chemical industries continue to weaken. We remain in the grips of a global inventory de-stocking dynamic which appears to have reversed in Asia as what I believe is opportunistic purchasing of raw materials like scrap steel, copper, lead and zinc by the Chinese. I think that raw material stocking is apt to subside going forward as it is unsupported by sufficient end market demand. Demand though likely stronger and more responsive to Chinese stimulus given the more rapid and proportional measures is likely in my opinion only to soften the blow of the current global recession rather than leading to a resumption of rapid growth.

Similarly, consumer demand for gasoline continues to soften, so refinery utilization is low and unlikely to rebound meaningfully as distillate inventories are also on the high side. And continued ramping of low cost middle eastern natural gas and LNG production is likely to keep natural gas prices under pressure globally. In this context, hope related to an economic recovery driven by infrastructure development supported by U.S., Chinese and Eurozone stimulus should fade. Thus I think the time is right to press the short side in steel and energhy once again as it appears a reality check is imminent. In this context, NUE, DVN, XTO appear particularly vulnerable to me.