Two markets

www.platts.com/metals METALS

METALS SPECIAL REPORT

AUGUST 2016Stefan Swanepoel, TSI Analyst, EMEAKurt Fowler, TSI Regional Manager, Americas

A TALE OF TWO MARKETS

SPECIAL REPORT: METALS A TALE OF TWO MARKETS

2© 2016 S&P Global Platts, a division of S&P Global. All rights reserved.

INTRODUCTION

Over the last 18 months the global ferrous scrap market has experienced a number of seismic shocks significant enough to measure on the Richter scale. From the black swan month in February 2015 in the US, to the recent run-up and subsequent drop-off in the Turkish market, the nerves of steel typically shown by ferrous markets have understandably been shaken. The Steel Index (TSI) publishes indices in each of these markets and therefore spends significant time studying the market and conversing with participants. In the following we attempt to deconstruct the markets and their recent evolution.

TURKISH

The Turkish scrap market went five weeks without a bulk cargo booked earlier this year - an unprecedented time period for a country that is globally the largest scrap importer, importing 16.3 million tons in 2015. The last cargo imported on May 4th, which was from the US East Coast, was booked at the highest level (US$330/tonne) since October 2014. Therefore, having a historically high trade followed by a period of no activity in the market, uncertainty amongst scrap traders has increased, which in turn permeated throughout the global scrap market.

Scrap’s record price rise in 2015 on TSI’s Turkish HMS 1&2 80:20 index from February (US$175/t) to October (US$327/t) came about due to the continuous increase of rebar export prices, which in turn was a result of upward adjustments following renewed strength in the Turkish lira versus the US dollar. Moreover, cargoes booked by mills ahead of the fasting month of Ramadan when, typically, crude steel output falls, also resulted in demand increasing. However, as with many industries in global markets, these factors seemed to not have as significant an impact as events happening in China.

In the second half of 2015 the Chinese market experienced a downturn in steel prices due to the market being in a state of structural overcapacity. In turn this resulted in lower-cost producers in East Asia seeking to export excess material. This also caused steel billets, the semi-processed precursor product to rebar, becoming cheaper. As was seen in Q4 2015, when Chinese billets become competitively priced mills prefer to purchase billet over scrap due to the lower conversion costs, as billet is rolled directly into rebar. Moreover, Chinese steel producers also have a preference to exporting billet due to savings on additional conversion costs, in turn flooding global markets with billet and causing scrap prices to decline. This situation again materialized earlier this year and therefore as Chinese prices continued to drop, so too did sentiment in the market.

As import activity of scrap came to a stand-still, market participants began seeking clues in global markets to get a sense of where the level of the next trade may be. Given the continuous level of interaction Turkish steel mills have with scrap suppliers globally, it is to be expected that the Turkish import price has a strong correlation with other major prices. The Taiwanese market experienced dramatic declines throughout May, decreasing 31.12% over the course

of the month and therefore the Turkish market could use this as a proxy. As can be seen in the figure, Turkish scrap has consistently traded at a premium of US$20-US$40/t since July 2014. Yet, with the recent price slump in the Taiwanese market and the inactivity in the Turkish market, this premium jumped to an unprecedented US$109/t. The assumption was therefore that this significant differential should correct back to the historical range, which the market has begun to see.

SIMILAR SCENES ACROSS THE ATLANTIC

The US market, which is the largest scrap exporter with 12.8 million tons in 2015, has also not been able to avoid the recent global volatility, with the oversupplied Chinese market having similar effects on domestic pricing. The US traditionally has above average spot prices; therefore naturally it becomes an attractive destination for exporters. However, despite more trade sanctions being implemented against allegedly dumped or subsidized foreign steel, ever increasing imports continued to place downward pressure on domestic steel prices. Mill capacity utilization rates in the Midwest dropped as a result and ultimately led to a 10.5% year-on-year fall in crude steel output in 2015. These conditions filtered through to the obsolete shredded scrap market as prices dropped 50% year-on-year.

0

20

40

60

80

100

120

Jul-16Jan-16Jul-15Jan-15Jul-14

($/mt)

TURKISH SCRAP PRICE PREMIUM OVER TAIWANESE IMPORTS*

*Turkey: HMS 1&2 80:20, Taiwanese: HMS 1&2 80:20 (containerised).Source: TSI

-100

0

100

200

300

400

500

Aug-16Feb-16Aug-15Feb-15

($/mt)

CHINESE DOMESTIC TANGSHAN BILLET* PRICE PREMIUM OVER TURKISH SCRAP

*Includes 17% VAT.Source: Platts, TSI

Turkish Scrap - HMS 1&2 80:20 Billet - Scrap SpreadChinese Billet - Tangshan

Figure 1. The collapse in Chinese billet prices has resulted in mills preferring to buy billet over scrap due to cheaper conversion costs to rebar.

Figure 2. Taiwanese EAFs are located very close to Chinese BOFs. As a result, their scrap prices are the most sensitive indicator for the competitiveness of EAF vs BOF in Asia. A rise in the Turkish scrap premium over Taiwanese scrap indicates a growing East-West.



In early May shredded scrap delivered Midwest reached a high of US$293/long ton for the first time since January 2015. Prices have however been in a steady decline since, as would be expected if one was watching the Turkish market since US prices have a 96% correlation with the Turkish market. When the export market came to a halt, coastal suppliers began sending shredded scrap inland to an already well supplied market. Furthermore, as Chinese billet offers continued to drop, scrap prices reacted as the market became alarmed at the bearish sentiment prevailing in the market. Uncertainty continued to grow and thus buyers and suppliers stepped to the sidelines, causing bids and offers to dry up and hence resulting in the market essentially coming to a standstill. Pressure remained on obsolete scrap as US steelmakers had to begin turning down mid-month offers from sellers whereas those mills that did buy scrap late in the month were able to do so at the same price level as buy-week.

July saw prices level around the US$240-US$245/l. ton mark after bulk scrap activity off the East Coast eventually resumed, with the first trade reportedly booked at US$235/t CFR Turkey in the second week of June. This in turn resulted in East Coast shippers dropping offer prices to local scrap suppliers. Although prices have managed to bounce back, volatility remains high in the scrap market with monthly price jumps of +/-5% becoming increasingly frequent. Moreover, scrap exports have declined 39% between 2012 and 2015 as a strong US dollar meant Turkish buyers opted to source material from European and Baltic suppliers. Evidently there is cause for concern for domestic players.

WHERE IS THE CHINESE SCRAP?

With the US and Turkey being the largest players in scrap, the question begs what is China’s position on scrap? China has a unique relationship with scrap as it is a minimal importer and consumer of scrap when compared to its >800 million tonnes of annual steel production. Unlike in Turkey where electric arc furnaces, a steel production method that requires over 80% of scrap as an input material, makes up around 70% of steel production, only 6% of Chinese steel production is done through EAFs. Furthermore, blast furnaces, which produce steel mainly through iron ore, Chinese scrap consumption is as low as 8% compared with a typical 15-20% globally.

If China was to increase scrap consumption to 15% in the blast furnace method, resulting in an additional 54 million tonnes of scrap consumption, it would be akin to adding an additional US worth of demand in the market! With the government having environmental targets to meet, and with the usage of scrap over iron ore reducing carbon dioxide emissions, pressure is mounting on China to increase scrap consumption.

EVOLVING MARKET

Volatility in ferrous scrap prices is evidently increasing as the global steel industry suffers an oversupplied market for finished products, trade wars escalate, and the price of iron ore fluctuates wildly.

To combat this volatility in pricing, two new risk management contracts have emerged to encourage participants to address the price risk in the markets. The London Metal Exchange (LME) listed contracts for steel scrap and steel rebar, based on TSI and Platts assessments, in November last year, with both contracts targeting the Turkish long products steel supply chain. Furthermore, in late March the world’s first US obsolete shredded scrap futures contract, listed on the NASDAQ and cash-settled against the TSI-day Shredded Scrap (delivered US Midwest) reference price, was launched.

For scrap recyclers, the motive for hedging is clear. A cash-settled scrap futures contract can help bring about forward price certainty by protecting processing margins. Equally, for steel producers, the futures contract represents an opportunity to lock-in a portion of their raw material input costs and thereby help them to manage gross margins. Finally, the value for end-users is clear too. Those in the demolition industry can utilize scrap derivatives as an opportunity to tender more competitively for projects with a clear view of the future value of the scrap recovery.

The past month has once again highlighted the significant volatility that can be expected from this market after the attempted coup in Turkey. This in turn resulted in currency fluctuations that saw the Turkish lira drop over 5% in value to the US dollar. Turkish mills saw the weakening of the lira as an opportunity to galvanize export sales, which in turn explained the flurry of scrap buying activity immediately following the weakening of the lira. This is what ultimately resulted in the recent uptrend in scrap import prices.

0

2

4

6

8

Rest ofthe World

TurkeyTaiwanSouth KoreaMexicoIndia

(million mt)

US SCRAP EXPORT DESTINATIONS

Source: US International Trade Commission

2013 2014 2015

100

200

300

400

500

Aug-16Aug-15Aug-14Aug-13Aug-12Aug-11Aug-10

($/lt)

US SHREDDED SCRAP PRICE DELIVERED MIDWEST

Source: TSI

Figures 3 and 4. US scrap exports fell 39% in the period between 2012-2015. Declines in 2015 were mainly due to lower export volumes to Asia based nations.



For more information, please visit us online or speak to one of our sales specialists:

www.platts.com | [email protected]

NORTH AMERICA +1-800-PLATTS8 (toll-free) +1-212-904-3070 (direct)

EMEA +44-(0)20-7176-6111

LATIN AMERICA +55-11-3371-5755

ASIA-PACIFIC +65-6530-6430

RUSSIA +7-495-783-4141

Business

Two markets