Market expectations of a protracted downturn in China’s demand for steel have proved inaccurate, at least for this year, according to Metal Bulletin Research (MBR).
Demand had caught up with last year’s levels by September, as Metal Bulletin has detailed in earlier Outlook articles, and strong year-on-year growth since that time guarantees that apparent steel consumption in the East Asian country will rise moderately this year, by 1 -3%.
MBR’s updated forecast for 2% growth (0.90% through the first ten months and a provisional 1.80%through November) will bring consumption to almost 679 million tonnes of finished steel by the end of 2016. This will be 13 million tonnes more than last year, once historical revisions are taken intoaccount.
This uptrend has been supported by an improvement in underlying end-use conditions, rather than any stock-building programme in other products, such as iron ore.
In fact, just as iron ore stocks in China have surged by 25% this year – up to a near-record 1.2 months’-worth of demand by November – finished steel stocks at both warehouses (resellers) and steel producers have been slashed to 20.4 million tonnes during the same period. This is a fall of 14%, to only a couple of weeks’-worth of demand.
The standout end-user industry for finished steel has been the comparatively small but growing
automotive industry, which makes up only 10% of Chinese steel demand but has far surpassed the expectations given by automotive analysts at the start of 2016.
In recent months, the year-on-year growth in automotive production has far exceeded 15%, and the fourth quarter is by far the best for the sector, exerting a bigger effect on China’s annual growth rate than the sluggishness at the start. It is hardly surprising in the circumstances that shipments of coated steels by member-mills of the China Iron & Steel Assn (Cisa), which are mainly galvanized, had also risen by almost 15% year-on-year at the latest count – which covered the first ten months of 2016.
As in the USA, and in more recent years also in the EU, the automotive industry is leading a general improvement in coated steel consumption, but also in flat-rolled steel products in general. Indeed, MBR estimates that Chinese steel demand has revived overall this year because of a 4% gain in minority flat-rolled products, trumping a 2% fall in long steel products. That being said, the revival this year in Chinese new building starts has also supported construction steels, whose volumes still dominate China’s steel market.
The revival in cement production reflects the gains in new floor-space starts – which rose by nearly 8% year-on-year from January to November, after their sharp decline since the 2013 peak of construction and steel demand in China. This suggests that underlying demand for rebar has also revived, even if apparent demand has not shown the same degree of improvement.
China produced almost 3% more cement in 2016 than last year through the first eleven months. This was not in line with the 15% increase in passenger and commercial vehicle outputs combined, but enough to suggest similar growth in demand for bar and rod products.
As in any steel consuming market, the fortunes of industrial production (including construction and manufacturing) have been critical to China’s development. The steady acceleration in Chinese industrial production growth this year, from just 5% year-on-year at the start of 2016 to more than 6% in more recent months, has given an increasingly upward momentum to the steel markets.
However, another key effect of the pick-up in domestic demand in China, benefiting producers
although not consumers elsewhere, has been a fall in steel exports.
MBR estimates that Chinese net exports of finished steel, including misclassified billets, will have slipped by about 4 million tonnes in 2016 to 96 million tonnes, contrary to our initial forecast of a 10% rise. Net exports were rising by 10% as late as July, but since then the demand revival at home and increased competition abroad have seen export volumes retreat.
The primary portion of this decline has come from flat-rolled products, which are in higher demand at home – although import duties in certain key markets such as the USA and EU have aggravated the situation.
This has affected the trade in hot and cold rolled products more than coated flat products. Indeed,
despite the loss of the US market, coated export volumes overall have risen much more quickly than those of any other product group.
For long steel products – including misclassified semi-finished steels, most of which were classified as hot rolled alloy bars – volumes may still be on course to rise in 2016, but the momentum has shifted over recent months.
After initially growing year-on-year by 42% from January to June, these so-called bars, which include rebar but also billet, have since seen a reversal, falling by 33% year-on-year on average between August and October.
It is this recent long-product retreat that has given overseas producers of scrap-based long steel
materials an opportunity to increase their prices and, in some cases (except the USA), their margins over scrap after the heavy erosion in this measure that was seen last year.
The effects of these fundamental shifts in Chinese steel market dynamics have clearly been
magnified by the unwillingness or inability of producers to increase supply accordingly.
Steel producers in China are roughly 95% integrated, so they find it hard to adjust to demand
changes. Consequently, just as falling demand in the past led only to rising exports, so the reverse is true – regardless of theoretical or nominal capacity perceptions that dominate China-related discussions in the market.
"Effective" capacity utilisation surveys tend to show that the vast majority of integrated producers are always above 80%. This means that only one in every five of their blast furnaces is being hot-idled while the majority are at full capacity and therefore have limited upside potential.
MBR tracks the relative, annualised changes in Chinese steel capacity on a quarterly basis and
concludes that, over the third quarter of 2016, available capacity has actually shrunk by roughly 20 million tpy.
Even as prices are rising amid market tightness, the negligible profits of the average producer have actually been squeezed recently, just as foreign rivals have been expanding and forcing the least profitable operations out of business.
The combination of rising demand within China (albeit modest) and reduced Chinese supply
volumes going overseas (also modest) has characterised the general steel market in 2016.
Despite these comparatively small fundamental changes, overall, steel prices have surged. The
effects of small, fundamental market changes would appear to be unnaturally strong and have
almost driven steel markets in a way similar to what has been seen in base metals.
As far as MBR is concerned, however, spot prices reveal much about how fundamentally tight the steel industry and related supply sectors (such as coal) have become after years of reducing
inventory, constraining credit, and putting much greater management focus on cost rather than
investment, in contrast with iron ore.
They also suggest that small changes next year might have significant effects on prices, either
upward or downward.
MBR also predicts that, if Chinese export volumes continue to decline, the regional dynamics in
markets from South America to Western Europe will have a much greater influence on local prices than in recent years, when so-called "China-bashing" has become more intense.
The consequences of decisions to increase capacity, such as in the USA with Big River Steel, or to restart capacities, as in Europe with ThyssenKrupp, could begin to result in the effects that Chinese exports recently had.
However, we shall end on a positive note: although China has outperformed our bearish
expectations in 2016, we forecast that it will be the rest of the world that will accelerate in 2017.
New capacity investments on course for first production today may end up proving to be strategically great decisions tomorrow.