The developments in the flat rolled market have continued to be bullish. Last week, we saw tightening in the secondary market as service centers became more aggressive on the price. This week’s MSCI report will provide insight into January shipments and inventory levels. Expect shipments to be up noticeably and inventory to be down. Also, mill lead times pushed out further again.
This excerpt was from last week’s report:
Last week was the first week where mill lead times materially pushed out. Most mills have already sold out their March capacity and are withholding selling April tons for now. The couple mini-mills that still have March capacity are taking orders one week at a time quoting late march on a deal by deal basis.
While there has been a flurry of RFQs and purchase orders that came across FGM’s “desk” last week, skepticism that this rally has further to go remains. Let’s assume the relatively low inventory levels held by OEMs indicated by the ISM Manufacturing PMI and US Durable Goods Reports and discussed ad nauseam in this report for months is correct. A restocking push by the collective on top of strong Q1 demand could turn this explosive rally into a buying frenzy over the next few months. The realization that lead times have jumped dramatically is making its way into the market and it will be interesting to see how buyers react.
There is potential for a positive feedback loop to develop where OEMs trying to increase inventory on hand to compensate for longer mill lead times further push out mill lead times resulting in the need for even more inventory only to push lead times out further, etc. etc. Words like reassessment, bottleneck, availability, allocation and crazy were used an abnormally high number of times last week in conversations I had with my colleagues and contacts. These terms look to take a bigger part in our industry lexicon starting right now.
The tightening in the secondary market looks to add strength to the theory posited above.
The chart below is of the rolling 2nd month CME Midwest HRC future. The March future (HRC2) was up $20 to $740/st for the week, but traded as high as $768 on Tuesday, February 13th.
Rolling 2nd Month CME Midwest HRC Futures
The Midwest HRC price continues the rally that began more than two years ago in December, 2015 at $365/st with the Platts TSI Midwest HRC Index closing the week up $28 to $745.50 and the February CME Midwest HRC future settled up $20 to $742/st.
March CME HRC Futures (white) vs. Platts TSI Daily Midwest HRC Index (orange)
Collapsing flat rolled imports (licenses), unattractive global flat rolled differentials and production cuts both domestically and in China point to tighter domestic supply over the short and medium term. January flat rolled import licenses now stand at 868k, up 77k MoM, but February flat rolled is forecast to plummet to 445k tons, which is way too low of a forecast and is expected to be adjusted much higher as the month goes on. However, the forecast is so low because there were only 94k licenses through February 6th, which will lead to a dramatically lower import total for February.
Tube import licenses are showing a big gain in January to 756k and a massive fall back to 401k in February.
As it stands, flat rolled plus tube licenses fall from 1.62m in January to 846k in February.
Flat Rolled (blue) and Tube (red) Imports
The following issues are the foundation of our current constructive view:
– A global uptrend in manufacturing purchasing managers indexes
– A rebounding and strengthening US energy industry
– Persistently low OEM inventory levels evidenced in the ISM and Durable Goods reports
– Conditions ripe for OEM restocking
– Falling imports volumes expected for the remainder of 2017; shrinking global differentials
– Rallying raw material prices
Upside Risks:
– Increased trade policy risks (Section 232, NAFTA)
– Sharp drop in steel imports
– China strict steel capacity cuts/China getting serious about curtailing steel production
– Chronically low inventory levels/domestic or global restocking
Downside Risks:
– Political & geopolitical uncertainty (US Government shutdown)
– Stock Market Crash
CME Midwest HRC futures saw strong gains with the February future up $20 to $742 and the March future up $24 to $740. April gained $30 to $730, May added $22 to $721 and June increased $18 to $709. July was up $9 to $692, August was up $10 to $692 and September gained $13 to $692. Q4 was up $6 to $680.
The Platts TSI Daily Midwest HRC Index jumped $28 leading US HRC indexes higher. Midwest CRC and HDG Indexes were up almost 1%. The TSI ASEAN index continues to rally gaining $11 to $551/st.
The ASEAN HRC Index continued to rally while the North European HRC Index was close to unchanged.
Below are HRC, CRC and HDG prices and differentials using pricing from SBB Platts. Differentials are expanding quickly with the rally in Midwest HRC prices. I would caution the historical relevance of these differentials as current prices are elevated globally and steel buyers, as exhibited in the futures market and from anecdotal evidence, seem to be very skeptical of this rally. The logic is that a buyer is going to have a hard time purchasing $650 imported hot rolled; that the sticker shock and concerns that US prices will be falling when these imports arrive will decrease imports purchased (not to mention the 232 risk) and this will perpetuate the rally as supply remains constrained. February’s significant drop in import licenses might be evidence this is occurring.
Notice in the charts above the last two times the differentials bottomed; first in March, 2016 and second at the end of October, 2016. Now look at the chart below and notice the massive rally in the Midwest HRC price that followed in both instances. The rally that started in March, 2016 gained $231 or 58% from low to high. The rally that started in October, 2016 gained $192 or 41% from low to high.
As of last Friday, the rally that started in October, 2017 has rallied $162 or 28% from low to high. If the current rally gains 41%, as it did in the rally started in October 2016, then the index will peak at $823/st. If the current rally gains 58%, as it did in the rally started in March, 2016, then the index will peak at $922/st.
Platts TSI Daily HRC Price
SBB Platts’ US Midwest HRC price jumped 3.9% to $746. HRC prices were mixed with Russian export and Middle East import prices up over 2.5% while Brazilian Domestic, UK and South European prices were under pressure.
The US Midwest CRC price gained 0.6% with Russian export CRC up 2.5% and Brazilian domestic prices down 1.4%.
The US Midwest HDG price was unchanged while there was a small but broad pressure on the cross section below.
AISI Steel Capacity Utilization Rate and TSI Daily HRC Price
The AISI capacity utilization rate jumped up to 75%, the highest it’s been since last August.
Raw materials put in a strong showing last week with iron ore leading the way gaining over 3%. Over the weekend, Hebei, China’s largest steel making city, announced it plans to extend production cuts. A document on the Tangshan’s government website explained the city will be drawing up a plan to continue some production curbs by month end.
The March LME Turkish Scrap future reached to new highs.
The backwardated SGX iron ore futures curve has seen little change over the past month.
The chart below shows the 2nd month SGX iron ore still struggling to break above its long-term down trend.
2nd Month SGX Ore Future
The chart below shows a cup and handle pattern in the rolling second month iron ore futures. Prices have broken above the downtrend of the handle and if they trade above $77 with force, look for a rally to follow.
2nd Month SGX Ore Future
Over the weekend, Hebei, China’s largest steel making city, announced it plans to extend production cuts. A document on the Tangshan’s government website explained the city will be drawing up a plan to continue some production curbs by month end. Black Sea billiet, US Plate and Turkish Rebar saw gains.
There was little economic data released last week.
The ISM Non-Manufacturing Index posted a much better than expected 59.9, the fourth highest mark going back to the index’ inception in 1997.
ISM Non-Manufacturing Index
This chart adds the ISM Manufacturing Index to the Non-Manufacturing Index to give a good picture of the the industrial and services components of the economy combined. As you can see below, the two indexes are at very strong levels pointing to a very healthy US economy.
ISM Manufacturing Index Plus Non-Manufacturing Index
The S&P 500 had a wild week eventually closing down 5% as markets around the world were under significant pressure.
S&P 500
Steel mills were all down with the broader market, but most outperformed the S&P 500 5% dip on the strength of steel prices.
AK Steel
Service centers were also all lower.
Northwest Pipe & Tube
Iron ore miners were all mixed.
Base metals got beat up falling 3-5%.
CME March Copper Future
LME 3 Month Rolling Aluminum Future
LME 3 Month Rolling Zinc Future
The US dollar gained 1.4%. The euro fell 1.5% while the Japanese yen gained1.2%. The gains in the US dollar were well spread across losses in emerging and commodity focused economies.
US Dollar Index
Euro
Japanese Yen
Russian Ruble
Brazilian Real
The February WTI crude oil future closed down 9.6% or $6.25/bbl to $59.20/bbl. Crude oil inventory rose 0.45%, distillate inventory gained 2.9% and gasoline inventory gained 1.4%. The aggregate inventory statistic was up 1.2%. Crude oil production rose 3.35% to a new all-time high of 10.25m bbl/day. The US rig count jumped 29 rigs and the North American rig count added 12 rigs to 1300. The March natural gas future was down 9% or $0.26/mbtu to $2.58/mbtu, even while inventory fell 5.4%.
CME March Natural Gas Future
March WTI Crude Oil Futures and April Crude 15 Delta Put Volatility (white)
Aggregate Energy Inventory (white) vs. WTI Crude Oil Futures
D.O.E. Crude Oil Inventory
D.O.E. Crude Oil Inventory Perspective (1982 – Present)
Baker Hughes US Rig Count
Baker Hughes North American Rig Count
D.O.E. Crude Oil Production
D.O.E. Crude Oil Production Perspective (1983 – Present)
The US 10 year Treasury yield was quiet considering last week’s market sell off and gyrations. Higher wages implying both lower net profits and a more aggressive rate hike scheme by the Federal Reserve was blamed as the catalyst for the stock market moves. Usually, investors buy up treasury bonds as safe haven during a selloff so perhaps the 10 year rate’s move higher was balanced by the market sell-off.
U.S. 10 Year Bond Yield
German 10 Year Bond Yield
The list below details some upside and downside risks relevant to the steel industry. The bolded ones are occurring or look to be highly likely. The upside risks look to be in control.
Upside Risks:
– Increased trade policy risks (Section 232, NAFTA)
– Sharp drop in steel imports
– China strict steel capacity cuts/China getting serious about curtailing steel production
– Chronically low inventory levels/domestic or global restocking
– Post hurricane development and production
– Energy industry rebound
– Graphite Electrode Shortage
– Unexpected inflation
– Weaker dollar
– Flatbed trucking availability/transportation supply constraints
– Section 232 Investigation
– President Trump’s agenda
– Infrastructure bill/long-term solution to highway spending bill
– Unplanned domestic supply side disruptions
Downside Risks:
– Political & geopolitical uncertainty
– Stock Market Crash
– Crashing iron ore, scrap and finished steel prices
– Stronger dollar
– Sharp increase in scrap volumes resulting from Hurricanes Harvey & Irma
– Domestic automotive industry under pressure
– Sharp and persistent drop in oil and/or iron ore prices
– US domestic producers bringing back on capacity
– Higher interest rates slowing residential construction and auto sales
– Tightening financial conditions pressuring auto sales driven by sub-prime financing
– Chinese restrictions in property market
– The Chinese Financial Crisis
– Unexpected sharp China RMB devaluation
– Increasing import differentials
– Economic downturn, especially in China or Europe reverberating to U.S.A.
– Weak demand in housing or automotive