2016 to be a Year of Volatility?

Written by John Packard

This may come as a surprise to some but, there are many who think 2016 may be one of those years where flat rolled steel price volatility, maybe even extreme volatility, could become the norm. We are now in the midst of a five month upswing in flat rolled steel prices which has taken benchmark hot rolled from its December cycle low of $360 per ton to last week’s high of $505 per ton. Our expectation is for prices to continue to move higher with the mills pushing $560-$580 as their next benchmark to hit during this cycle. From our perspective (SMU) we think the steel mills will be able to achieve $600 per ton on hot rolled, if they so desire, within the next month as there is little foreign being offered at prices attractive enough to put pressure on domestic numbers, it appears inventories at service centers are balanced to the point where flat rolled steel stocks need to be replenished and we are about to get another “up” month for ferrous scrap prices.

Late on Friday SMU spoke with a steel buyer who reported, “The last two weeks steel prices have just exploded.” Then the buyer went on to express their doubts, “I don’t understand the fundamentals behind it.”

In the United States, with our open border policy to most countries to send in foreign steel, steel buyers don’t understand the supply side of the industry driving steel prices as opposed to improvement in demand fundamentals as being the deciding factor.

The domestic steel mills have made difficult choices to take excess steelmaking capacity down. A large portion of that capacity was taken off-line by US Steel due to their significant exposure to energy markets. US Steel has permanently shut down their steelmaking operations at Fairfield Works and temporarily idled two furnaces at Granite City Works.  AK Steel also took down their blast furnace and BOF at Ashland.

We have seen steel prices increasing around the world as China’s steel market gains strength which seems to have prompted hikes in steel prices around the world.

It has also affected scrap prices as billet offers out of China have created opportunities for U.S. scrap exports to Turkey. We understand export prices are close to $300/metric ton for the usual 80/20 mix. One of our pig iron sources told us quotes on pig are now at $300 NOLA (New Orleans). The price of iron ore has also influenced scrap prices around the world.

Commodity prices have also reacted with benchmark 62% Fe iron ore spot prices reaching $68.7 per dry metric ton (dmt), Tianjin Port, China on Thursday before pulling back to $65.50/dmt on Friday. The $68.7/dmt number set the new 52 week high for spot iron ore in China according to The Steel Index (TSI).

One of the largest scrap companies told us late last week, “Obsolete scrap flows have improved 10-15% MOM, adding incremental supply which would normally tend to mute any upward price pressure.  However, this is being offset to an extent by the recent spike in ore prices which has resulted in ore-based metallic moving appreciably higher (pig iron being quoted $300/mt NOLA) and EC scrap exports continuing to firm as you note below.  Early indications are the scrap market will likely move higher in May, but the magnitude and sustainability of a rise remain in question at this point.  Interestingly, Bloomberg reported this morning that Goldman Sachs expects ore pricing to retreat back to $35/mt by year end.  Clearly, the markets are going to continue to be cautious with supply chains being managed accordingly.”

Therein is the rub, the expectation for a collapse to the iron ore and scrap markets. Iron ore to collapse because there is an inherent mass excess of the ore around the world and the Chinese restocking will not last. Scrap prices have increased to a level where flows are increasing and, much like ore, once there is more scrap in the yards there is the expectation that scrap prices will drop.

Then there is the question about supply and adjustments of supply. Here volatility could come in two forms: domestic and foreign. The expectation is for US Steel or AK Steel (or both) to open back up steelmaking operations before the end of the year. We should learn more about those possibilities during the AK and USS conference calls later this month.

On the foreign side the question is when will the Chinese begin over producing to the point that they negatively impact prices on the world stage? At what point (and when) will foreign steel become attractive (or more attractive) to US steel buyers?

The expectation of many steel buyers is the second half of 2016 will be volatile with many predicting a drop in prices during the summer months. Here at SMU we are not so sure that will be the case as we look for stronger demand, especially in the flat rolled markets, to keep pressure on prices perhaps into the 4th Quarter 2016.

The kicker will be those domestic mills now offline. At what point can they return without damaging domestic steel prices? We should learn more in the coming days when USS and AK Steel discuss their 1st Quarter earnings and answer questions about the status of the idled furnaces. Stay tuned to SMU for more details.

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