The big question over the past week was the demand side’s reaction/acceptance to steel mill price hikes of HRC, not only in the U.S., but also globally. Reports indicate continued weakness in Europe, East Asia, Brazil, India and most emerging markets, but some pricing power and strength in the U.S., China and Turkey. However, higher prices have been met with muted interest. Further, anemic earnings reports from global steel producers, U.S. capacity utilization at 69.7%, and steel executives pessimistic comments did little to embolden demand. The buyers have been reluctant thus far.
Last week’s Steel Market Update industry survey indicated the majority of “both service centers and manufacturing companies” looked to “reduce inventories rather than build inventories.” I found stories regarding a lack of interest in increased prices in HRC markets in China & India, billet markets in Japan and Taiwan, slab markets in the Baltic Sea area and scrap markets in Turkey, Taiwan, Korea and Brazil. One report indicated the almost $200 spread between US and Chinese HRC that occurred in August and September will result in increased Chinese steel imports in the late Q4 and Q1 2013, while the SMU noted in their survey that “manufacturing companies reported being more inclined to consider utilizing foreign steel in their purchasing plans.” That being said, Michelle Applebaum of Steel Market Intelligence concluded the 5.5m tonnes of Chinese steel exports in September flooded the Korean, Japanese and Taiwanese markets, more so than the U.S. to avoid WTO issues, displacing tonnes and global equilibrium. South Korea saw slab imports decrease 39% in September due to depressed sales at home and their aggressive export of plate products. European based HRC mills are also looking to increase exports out of the E.U. as demand remains dreadful there. UK HRC market has weakened due to sluggish demand and Polish mills have reportedly dropped prices by about $40/t. Brazilian steelmakers are experiencing tepid demand as well and are cutting offers on shredded and heavy melting scrap.
On the demand side, it looks like buyers are resisting higher prices, continuing their behavior of holding and then quickly replenishing minimal stocks. On the supply side, global oversupply looks to be taking hold again as China ramps production back up to approximately 2m tonnes/week and most countries are looking to be net exporters of steel.
As indicated in a previous issue, weak economic reports and worse than expected earnings announcements/guidance were the anticipated headwinds for the fourth quarter.
“In the U.S., Caterpillar, UPS, Dupont and Yum Brands have all cited weakness in China and other emerging markets for slowing profits-along with the persisting Euro crisis. Global leaders in manufacturing and technology in Japan, China and South Korea have reduced their earnings expectations for the rest of this year. In South Korea, Hyundai Heavy Industries Co., the world’s largest shipbuilder by sales, said Thursday new orders plunged 40% to $13.1B from $30.5 B. Steel giant Posco said Tuesday its operating profit declined 18% in the third quarter and it expects further deterioration through the rest of the year. “The fourth quarter earnings are likely to be worse than the third quarter’s as low demand and overcapacity in countries including China will weigh on steelmaker’s margins further,” Posco CFO Park Ki-hong said in a briefing on the results,” WSJ 10/26 Alex Frangos And Juro Osawa.
Further, the uncertainty surrounding the election and “fiscal cliff” is negatively affecting production as decision makers are sitting on their hands. According to Verizon CFO Francis Shammo, “we are now seeing contacts and investment decisions being delayed.” Meanwhile, the 18th National Congress of the Communist part of China will take over on Thursday, November 8th. Much of the increase in Chinese steel prices and iron ore is being attributed to speculation of further infrastructure spending and stimulus actions by the new congress quickly after the change. If the new government disappoints or delays, there could be a rush to the doors resulting in plummeting steel prices. On the other hand, if expectations for significant infrastructure spending are met, the current minimalist behavior outlined earlier could quickly change resulting in sizeable price increases.
Just when things finally look to be on track in Europe, civil unrest is growing in Spain as separatist sentiment in the northern regions of Catalonia and Basque is growing strongly. Catalans go to the polls November 25th for a regional parliamentary election and the polls show pro-independence parties leading. Further, pro-independence groups from northern Basque country gained control of parliament during the October 21st regional election.
“Spain’s internal struggle echoes a larger debate convulsing the euro zone itself, as wealthier northern nations complain about supporting poorer southern ones. But now, as Europe enters its fifth year of crisis, the economic strains are deepening with fractures within some nations. In Spain and Belgium, and to a degree in Italy, local and national governments are battling over how to allocate scarce resources. Catalonia’s turmoil represents a major threat to European leaders’ hope of containing Europe’s crisis by stabilizing Spain,” WSJ 10/29 Matt Moffett
Reading between the lines, European crisis obsessed financial markets will have to contend with the outcome of the upcoming Spanish regional election for another four weeks.
I would be remised to leave out the dangerous escalation of cross-border fighting between Hamas and Israel in Gaza. Already a hotbed between Syria and Iran, this developing story might lead to serious implications. More on this next week, although hopefully not.
If you’ve made it this far without bursting into tears, you are soon to be rewarded. As bad as things are, the massive global stimulus of the past few months is working its way through the system with optimistic expectations. Last week, US GDP was announced at 2% versus expectations of 0.8% while all durable goods categories rose in September with new orders for manufacturing durable goods increasing 9.9% after a 13.1% decrease in August. New home sales showed continued upward momentum and consumer confidence hit a five-year high. The FOMC announced no change in monetary policy at their October meeting. According to their statement, the economy is growing at a moderate pace, job growth “has been slow,” household spending has advanced “a bit more quickly,” and inflation “has picked up somewhat” (2.15%). “The committee remains concerned that, without sufficient policy accommodation, economic growth might not be strong enough to generate sustained improvement in labor market conditions.” The economic announcements and the fact that the FOMC did not make additional measures imply they are seeing no further deterioration of the economy.
To be frank, things haven’t changed much over past months. The U.S. is still muddling along with help from Federal Reserve. Europe’s debt crisis looks to be solved one day only to flare up days or weeks later. Steel producers are struggling for profits and expect prices to be higher tomorrow while steel purchasers are executing highly conservative and risk-averse business strategies with the expectation that prices will be lower tomorrow. China is over producing and the Middle East is in upheaval. So where do we go from here?
Well, let’s look at the following major assumptions I see out there for clues:
There will be clarity following the U.S. election, regardless of the victor.
- The new Chinese National Congress will quickly implement or broadcast plans for significant economic stimulus after taking office.
- The U.S. congress will kick the can down the road regarding the “fiscal cliff,” AND a decision will come before the last minute.*
- The European debt crisis will not worsen and the Eurozone will remain together.
- Strong Q1 economic growth due to pent up demand and monetary stimulus will occur.
As Q4 2012 continues, answers to these questions will become clear. Obviously, these are significant assumptions with an incredible amount of uncertainty surrounding them. Therefore, expectations are for significant volatility in steel, commodities and manufacturing as individuals and firms react to the unfolding news. Currently, I believe the mills have strong enough order books and determination to hold out for higher prices. My expectations are unchanged since last week regarding the short and long term for steel prices, however, I am growing skeptically optimistic regarding prices in 2013.
* What concerns me most is bipartisan wrangling will lead to a last minute decision and the uncertainty around that last minute decision will lead to massive uncertainty, tumult, volatility and unintended consequences.