With the US economy showing further signs of recovery and Chinese growth continuing unabated, is it time for investors to turn to the notoriously cyclical steel sector to strengthen their portfolios?

According to Mr Michael Willemse, analyst at CIBC World Markets Inc, it is too late. He thinks steel related equities could be in store for a correction after rallying about 45% since September 2011. Those gains are about the biggest since 2008, when the sector quickly snapped back from its big time drubbing prompted by the financial crisis.

Mr Willemse, who covers both Nucor Corporation and Russel Metals Inc, downgraded the North American steel sector to underweight from market weight.

A key concern is that producers are ramping up production too fast. Already, the US trade publication American Metal Market is reporting that ferrous scrap prices have declined by USD 30 to USD 50 per tonne over the last week.

Mr Willemse warns in a research note that "While investors may be anticipating further increases due to a more optimistic US economic outlook, oversupply could cause a correction in the near term. We expect overcapacity in the North America and global steel industry to continue to constrict profitability to well below USD 100 per tonne. Given that current margins are at about USD 90 per tonne for a US mini mill steel producer and at about USD 70 per tonne for a US integrated steel producer, we believe further upside is limited."

In another signal things may be deteriorating in the sector, steel giant ArcelorMittal warned that concerns over Europe's economy had it demand as it reported a deep loss in the fourth quarter.

(Sourced from www.theglobeandmail.com)