But the end of the drop may be in sight as scrap and ore prices reach balanceDriven by the construction industry rebound, import steel is a commodity on the rise at Port Tampa Bay.
February was a bad month for steel scrap dealers as prices headed south, falling by $60 per metric ton, or more, depending upon the location. In fact, it’s been a bad few months. Back in September, a ton of steel scrap headed for Turkey fetched $400. Today, the price hovers around $250, quite a drop. In late January scrap for delivery in Turkey fell to $268 per ton from $300 in just three trading sessions on a London exchange. While analysts predict prices of scrap steel may drop even further, the good news is that there doesn’t seem to be much more room for them to fall. Prices could remain stable, or even increase some, in coming weeks.
The reason for the likely stability of prices in the short term has everything to do with why prices plummeted in the first place. A few months ago, when scrap prices were fairly healthy, prices for iron ore and coal began to drop. Even as scrap prices fell over the last few months, prices of iron ore and coal—the key inputs for making new steel—dropped even faster. At the end of January, scrap prices per ton stood at about three times that of iron ore, making the fabrication of new steel by manufacturers, instead of melting scrap, more attractive.
Scrap prices fell in reaction to that development, as well as others that coincided with it, and now stand at about $100 per ton higher than iron ore. Steel markets experts consider that to be roughly the point of equilibrium, meaning that scrap and iron ore are equally attractive as inputs to the manufacture of steel from a price standpoint for those able to make that choice. Manufacturers who have not made the switch are not likely to do so in this environment, and if scrap prices fall just a little more, it will make that material all the more attractive.
As for the steel makers, they are not hurting in this scenario. Although prices for their finished products have fallen, demand for steel in many economic sectors remains strong. As prices for their raw materials have fallen sharply, steel makers’ profit margins remain stable or may even increase.
The slide in steel scrap prices came as a result of the confluence of several conditions, according to James May, a Toronto-based steel market analyst. One reflects a catch-up in position between steel scrap prices and the costs of other raw materials. “Iron ore and coal used by integrated mills fell steadily through 2014 and the early part of this year,” said May. “This has given a major cost advantage to integrated mills in China and the former Soviet Union. They have been increasing their exports of finished long products and billet,” products used in the construction, mechanical engineering, energy, and automotive industries “displacing international demand for scrap to feed furnaces.”
Falling iron ore and coal prices reduced the global scrap to billet price spread to less than $100 per metric ton in January. “That was unsustainable as that is below the cost of melting scrap to make billet,” said May. “Either scrap prices had to fall or billet prices go up. With 80 percent of billet currently being supplied by integrated steel mills in China and the former Soviet Union and iron ore prices falling, the result was falling scrap prices.” Billet refers to a length of metal that has a round or square cross section with an area less than 36 square inches.
Scrap prices also fell due to lower demand for the material from the key export markets for U.S. ferrous scrap: Turkey and Southeast Asia. “Turkey depends on export markets for its long products and these are in disarray,” said May. “Conflict and political upheaval have seen volumes to its key markets of Iraq and Yemen fall away while sales have come under pressure from cheap products from China and the former Soviet Union because they were using lower cost iron ore and coal. In Southeast Asia, regional mills have also seen output fall under pressure from cheap Chinese products. It has been cheaper for Turkish steel makers to buy cheap billet from China or the FSU. As a result, they have stopped purchasing scrap and prices plummeted.”
The United States is a net exporter of steel scrap. “What that means,” said May, “is that when international prices decline, there is an excess of material available in the U.S. market. Exporters choose to sell to the domestic yards instead and prices slide even further.”
There was also some panic in the U.S. market that contributed to February’s dramatic decline in steel scrap prices, according to May. “The collapse in demand for tubular products for the oil and gas industries has led to idling or significant cutbacks at several mills,” he explained. “With elevated flat product inventories, buyers have exited the market and are watching mills progressively cut pricing. Mills will utilize their inventory first. The result was the exit of buyers and scrap dealers scrambling to sell their inventory.”
With scrap steel prices hovering around the $250 mark, May sees the relative cost position of scrap and iron ore as being approximately in balance. Iron ore prices are still falling but not at the same rate as scrap did in February. The ratio of scrap steel prices to iron ore now stands at less than three to one, down from 3.14:1 in mid-January but still much higher than the 2:1 ratio a year ago.
“The downside from here is fairly limited, yet we do not rule out further cuts in the short term,” said May. “Steel buyers holding inventory will continue waiting out the market and putting pressure on producers to cut prices. They, in turn, will further trim production and reduce their forward scrap buys. We don’t expect any major improvement until late in the second quarter when inventories of finished products will begin to turn.”
Meanwhile, Wall Street is bullish on many steel producers, despite falling steel prices. In one case, The Street noted U.S. Steel will see significant benefits in 2015 from lower natural gas, coke, and scrap prices.
In another case, Morgan Stanley termed the price adjustment a “bump in the road” for Steel Dynamics and noted that since the producer uses primarily scrap metals, margins matter more than absolute steel prices. As Steel Dynamics depletes its existing scrap inventory, Morgan Stanley noted, it will replenish at much lower prices, thereby benefiting margins.
Peter Buxbaum has been writing about international trade and transportation, as well as security, defense, technology, and foreign policy, for over 20 years. Besides contributing to the AJOT, Buxbaum’s work has appeared in such leading publications as Fortune, Forbes, Chief Executive, Computerworld, and Jane’s Defence Weekly. He was educated at Columbia University.
