Investors have been taking some profits in the past two or three days after a surge of more than 20% in world stock markets. It is still too early to tell if the rebound was once again just trap for investors eager to invest back in stocks. I see a difference in pattern from the previous short rebounds, this time around economic data are turning positive (or less negative) with US Retail Sales and US Durable Good Orders better than expected. It seems that market expectations are too pessimistic and this is a good sign the rebound will continue. This Friday, the US unemployment rate will be released and I don’t think it will be as bad as many anticipate.

As a result I will use the coming trading day to make few changes in my portfolio. I need to be more aggressive to play the other leg of the market rebound. I added at the end a chart of trading companies’ performances relative to Nikkei225 and it is clear that if the stock market continues to rebound these companies will outperform. I also want to continue to play a rebound in technology stocks as consumer electronics companies might need to rebuild inventories ahead of the second half of the year. So here are the moves I will make at the market close today:

SELL

• Komatsu and Hitachi Construction Machinery (2% each): these two stocks had a nice ride so far but they have underperformed in the recent rally. I also have too much weight on these stocks because in the end the story for these two companies is still the same: Chinese infrastructure spending.
• Nippon Steel (3%): I wrote an article ( Increase competition in the steel industry might be costly to Nippon Steel and JFE Holding ) about the disappointing performance of such a high beta stock. I prefer to sell it all and buy a trading company stock instead.
• Shin-Etsu Chemical (2%): In my last article about technical analysis ( NIKKEI225: LT and ST Technical Analysis for some of the stocks ), I had an important resistance around 5000. I have a big weight on Shin-Etsu Chemical and think it is too much especially after the strong performance of the stock
• Kikkoman (1%): I just continue to sell the stock as I am not confident it will outperform the Nikkei225.

BUY

• Mitsui & Co (3%): the stock has been strongly correlated to the Nikkei225 since December. If the market rebound I expect the stock to outperform (see chart below)
• Mitsubishi UFJ (2%): It is one of the big winners of the financial crisis; it has increased its market share in Japan and, with its partnership with Morgan Stanley, will certainly increase it in the rest of the world.
• Seven & I (2%): The stock is sound financially and has a good growth strategy but for some reasons the stock has underperformed the market since January 1^st. It is a good opportunity to continue my investment in the company
• Asahi Glass (2%): It is not a real technology play, but I believe the company will benefit from the rebound in demand for glass used in LCD TV. Corning revised its guidance upward recently and Asahi Glass should have better than expected earnings this quarter.
• TDK (1%): A real technology play with strong balance sheet and a strong performance. The company should benefit from the pick in orders from consumer electronics companies.

Finally, even if it is difficult for me to predict exactly what world currencies are going to do over the next few months, I don’t think the yen will be a safe currency for investors. Japan’s economy is not strong enough to get out of the recession before the US economy. The upcoming election in Japan will be an issue for a government under already a lot of pressure. The LDP will probably try to please its voters more than do the right things to bring Japan out of the slump faster. As a result it is possible like Mrs Patterson, from JP Morgan, said today on CNBC that the dollar-yen will climb back to the 110 level. If that happen it will be great for exports related companies and another reasons to be bullish cyclicals in Japan.

I came across a very interesting article in the Nikkei Newspaper Website today and I think it is a good one and I should talk about it.

Few of the best stocks individual investors, institutional investors and more particularly hedge funds had in their portfolio during the big market recovery period of 2003-2007 were Steel companies. Strong economic boom in developing countries like China, Thailand, India or Brazil push the demand for steel higher and higher. On top of the strong steel demand from emerging countries, there was the boom in automobile sales with the US reaching almost 17mn cars sold in a year in 2007. The sector was also under great restructuring with Mittal being one of the main active players with its acquisition of French steelmaker, Arcelor, and many other smaller companies. Growth in demand for steel was outpacing supply and was pushing prices of steel sheet to the roof. The world recession has put an end to this dream period for steelmakers.

I guess this is not new to any legitimate investor since every steel stock worldwide lost on average 75% from their high in only a couple months. I am not here to tell you what you already know, however, I am sure I can complement your knowledge. The crisis has had an important impact for the future of the steel industry especially in Asia. The European and American markets are dominated by Arcelor-Mittal, Nucor, US Steel and are not under any threat at the moment from Chinese or Korean steelmakers. So we are left we Japanese steelmakers that enjoyed until recently a strong demand of their products all over Asia and that are now facing fierce competition from Chinese and Korean steelmakers. Japanese steelmakers’ revenue growth is coming for a large part from China where they have always enjoyed strong market share but this “eldorado” might not last very long.

As I was saying, investors should expect a lot of changes in the steel industry. In the short run there has been downward pressure on prices in Asia as Chinese steelmakers have increase their production and steel products from Eastern Europe are sold cheaply in the market. For example, hot rolled steel sheet was sold for the equivalent of more than 600 dollars per metric ton in January, but the price fell to around 540 dollars by early March, a level some 40% lower than the record high reached last July. Russia and Ukraine, two important suppliers of steel in Europe, are turning to Asia to sell their products due to a lack of demand in Europe. Why Asia? It is very simple; China’s infrastructure stimulus turned China into the only active market for steelmakers worldwide. The big infrastructure spending in Europe and the US are not expected to be felt before the second half of the year at the supplier’s level. Another issue for Japanese steelmakers is the fast appreciation of the Japanese “yen” compare to the Korean “won”. It resulted in bigger room for Korean steelmakers to decrease the price of their products and made it impossible for Japanese companies to compete unless they were willing to decrease largely their margins. What could be even more damaging to Japanese steelmakers is if Korean companies enter aggressively the Japanese market. So far we have seen an increase in cheap imports from South Korean like the H-shaped steel beams sold at ¥70 000  much lower than what Japanese similar products.

In the long run, China’s government has repeated many times already that it wants Chinese steelmakers to be leaders worldwide and as a result they will push for mergers between Chinese steelmakers. More competition is therefore on the way for Japanese steelmakers. The Chinese market might become less and less attractive for Japanese companies; the Chinese government is expected to impose the use of Chinese steel products for domestic construction or use. Japan is already a laggard in North America or Europe and their lack of economy of scale will not provide them with enough resources to compete against a company like Arcelor Mittal. One more important point, the future consolidation in the Chinese steel industry will end up with the emergence global leaders to compete against Arcelor Mittal. The result will be a more than probable long price war to gain market share. It is what I call the “Eco 101” strategy, the same we have seen already in the DRAM industry, the Japanese Telecom industry and many other industries over the years.

In conclusion, I would remain cautious when investing in Japanese steelmakers. Nippon Steel and JFE Holding might still have the advantage of providing high quality steel products, which should help them to compete in the mean time. In the long run, we will need to see more consolidation in the Japanese steel industry if Japan wants to remain one of the leading suppliers of steel products. I have added a chart where you can see that Nippon Steel and JFE Holding are in line with the Nikkei225 since December. It shows that investors are concerned about the strategy of these companies at a time when most of cyclical stocks are outperforming the index. I am not sure if you should read too much into that chart but from an investing stand point, I think the risk reward from owning a steel stock is not good enough … and if full year results are lower than expected you will certainly see a big drop in the share prices.

For a long time Toyota has been the leader in the hybrid car market. The Prius is viewed as the best example of energy-efficiency and CO² reduction in the automobile industry. The energy bubble in 2008 brought by to the table the question of automobile dependence on fossil fuel in an environment of high gasoline price.

The race to new energy efficient cars has started again for more than a year now. Every car makers is coming with new car concept using hybrid technology, biomass technology, hydrogen technology or electric technology. It is still too soon to tell which technology has the brightest future as many uncertainty remains. Hybrid technology is no better than car using solely gasoline when on the highway (it is a great technology for city drivers on the other hand), electric technology uses lithium battery, a very expensive soft alkali metal with finite quantity available on earth. The hydrogen technology could be the most efficient technology that pollutes the less, however it is a very expensive cars to produce right now and it will take many more years before it becomes affordable.

At the moment, hybrid cars are the most advanced as Toyota reported recently it reached a million sale of its Prius. Players in the automobile market know that the future of the car is not gasoline anymore and they are trying to make sure customers choose their technology the same way Microsoft raced Apple to make sure people would prefer its Windows interface and not the Mac. It is a race and the winner will be able to enjoy many years of prosperity. Recently, Honda decided to become more aggressive in challenging Toyota’s leadership in the hybrid technology. The Japanese company release the Insight a hybrid car priced 15-20% lower than the Prius. In a time of recession and uncertainty, Honda understands that customers are more concerned by the price they paid than the energy efficiency of their car especially after the oil price dropped from $140 to $35.

Toyota might not wait too long to answer to Honda’s attack, The Nikkei newspaper recently announced Toyota would reduce the price of its old generation Prius to ¥1.89mn, the same price Honda is selling its Insight, whenever the company will release a new model of its Prius. It is probably just the beginning of a long price war to gain the battle of the hybrid technology. Honda’s head of Insight project, Norio Ano, raised his concerns when asked recently about the possibility for Toyota to lower the price of its hybrid car: “If Toyota could do that, it would be a threat. We would have to consider something.”