Three Reasons the Steel ETF Looks Solid

By switching to quarterly pricing, iron ore can sway with the market, allowing miners the benefit in times of economic strength. On that score, Posco just tentatively agreed to an 86% increase in iron ore prices.

Though high ore prices will weigh on steel mill profit, SLX's design allows it to benefit from the revolutionary negotiation shift. Despite being designed to track the steel industry, the fund's top holdings are iron ore producers Vale and Rio Tinto(RTP), two direct beneficiaries of the quarterly contract method.

U.S. Exposure

Iron ore producers' decision to shift contract negotiations to a quarterly system from the traditional annual method will put pressure on the steelmakers who depend on BHP, Rio Tinto and Vale for the ingredients necessary to produce their product. Analysts predict that the prices for these miners' iron ore could nearly double, causing steel prices to increase by one third.

Luckily for investors holding SLX, the fund's geographic exposure puts it in a prime position to benefit from these cost increases. More than 40% of SLX's portfolio is allocated to U.S. companies. Some representatives include United States Steel(X), Gerdau (GNA) and ArcelorMittal (MT).

Interestingly, the United States is in a unique position that sets it apart from other steelmaking nations. Unlike Japan, China and the E.U., the U.S. not only produces steel, it also happens to be a net exporter of iron ore, coking coal and other chief ingredients of the base metal. This unique cost advantage should benefit the nation's steel exports as other nations struggle to cope with their newly increased input costs.

These three factors mean there is a strong chance that the recent outperformance in SLX will continue well into the next quarter.

-- Written by Don Dion in Williamstown, Mass.

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