The week after a round of price increases from the mills, there were very few spot transactions as the market digested the new offer prices. Additionally, there were rumors that mills were looking to push a second price increase, which if successful, would push the spot HRC price firmly above $500/st. However, a more pressing concern for producers is their contract book’s discounted pricing, which is based on a lagging spot price index that currently sits in the mid $400s. Most of the contracted material’s price is based on index readings from this week, and the likely readings are pushing the mills to implement a unique structure to support their selling price – price floors.

Contract prices usually include a discount to the index, and the discounted price based on current index levels is below integrated mill’s cost of production. Due to strength in both the scrap and iron ore markets, the cost to produce has not dropped as much as the finished steel price. Rather than sell their contract tons – the majority of their order book for the month – at a loss, mills will put a floor on their selling price. Mills have the pricing power to do this because, as discussed last week, there is a shortage of supply in the market. Additionally, most contract buyers did not buy enough to meet their minimum threshold for tons over the past two months, and mills are not allowing them to take advantage of lower priced tons. A systematic hedging program could have helped buyers navigate these changing pricing dynamics!

Moving to pricing outlook over the next few months, further upside in pricing is expected as mandated shutdowns end and economic recovery begins. The scrap market for next month continues to look strong as the tightness in supply persists. Additionally, prices in China continue to grind higher, giving an indication of the expected recovery in other countries. As the coronavirus outbreak hit both the population’s health and financial markets in China a month before it spread globally, the economic recovery around the world should lag China by about 30 days. The below chart shows the USD price in short tons for both the domestic Chinese HRC price in orange and a 30 day lagged Platts TSI Midwest HRC index in white.

The recent bottom in domestic HRC spot prices aligns with when the China price bottomed 30 days prior. If the domestic price continues to follow the Chinese price recovery, spot prices should move above $520/st by next month. Interestingly, the forward curve moved last week to a flat structure at $520 starting in the June expiration back into 2021. With the curve expecting a similar price rally over the next month, we will be focusing on where the domestic China price goes for an indication on the next domestic price direction. Additionally, we will likely need to see lead times extend for prices to continue this price rally. While mills have raised their offer prices, we have not yet seen buyers come in at those higher levels. Lead times pushing out will indicate that mills are filling their order book at those higher prices.