It is getting worse for steel makers as there seems to be no signs of steel prices gaining momentum in the near future. The fundamentals are still weak. From new construction starts to sales of passenger cars, the slide is visible everywhere. The sentiments are feeble as forces of speculation have now moved the other way. Steel buyers are taking commanding positions as they wait and show no hurry.
Chinese steel demand is down. They are releasing record quantities on to the world market. Many small- and medium-size producers are already closed. The country has over 70 million tonne of iron ore lying in the ports. The implications of a significant slowdown in Chinese steel demand will leave the industry elsewhere terribly worried. It will hit the raw materials industry hard.
How far will the steel prices go down? There are many factors to look at. The bulk of the global steel makers are tied to iron ore and coking coal contracts. Their costs are more or less fixed. They can at the most gain from lower shipping costs. An international steel producer dependent on globally sourced coking coal and iron ore will end up spending over $500 on all raw materials alone. This will take them to about $700-750 per tonne to produce a tonne of HR Coils. This will be the first resistance level. If this does not work, they will look for only the recovery of the marginal costs. This will bring them down to accept another cut of $100 per tonne. Below that, even the most efficient will make cash loss. Therefore, the integrated plants with BF will face some serious concerns.
The EAF-based plants will be better placed as the scrap prices have fallen sharply. Their costs will be $600-650, about $100 lower on an average at current scrap prices. But, at $600, they will also see stars.
However, steel prices are unlikely to see a crash to the bottoms witnessed in the last recession, even speaking relatively, taking into account the current and the past raw materials price differential. The hugely consolidated industry of today will rather cut production to save the price. If they go for that, however, it is the raw materials industry, which will take the brunt of it. The iron ore contracts are unlikely to be sustained at current levels in the year to come. So will be the case of coking coal.
The good news is that oil prices are falling and the recession may be over earlier than expected. The US economy shows signs of a recovery and the dollar is gaining strength. The steel makers, however, will certainly gain from lower iron ore and other raw materials prices on the spot market immediately.
This slump, although forecast much earlier in this column, has been considered unexpected by the industry. The steel industry now needs to work on a different strategic plan for the future. If the recovery is quick, the industry need not perhaps bother about it. But, there are no clear signs of that. The industry will need to revisit their investment strategies in the context of rising capital costs and lower steel prices.
?The author is independent strategy consultant, Steel and Natural Resources