Steel prices take a tumble in the GCC

14 September 2008
Mass stockpiling has led to a fall from the summer peak in rebar prices as demand drops off.

Having hit record highs of up to $1,900 a tonne in July, Gulf reinforcement steel bar (rebar) prices have plummeted, losing almost one-third of their value in just six weeks. Much to the relief of construction contractors, retail prices for rebar delivered to Dubai have dropped from highs of AED5,800-5,900 ($1,579-1,606) a tonne to about AED4,000-4,100 a tonne, says John Short, executive director of steel and base metals at the Dubai Gold & Commodities Exchange (DGCX).

Similarly, for the imported material shipped to Dubai, prices have fallen from their July high of $1,530-1,550 a tonne on a cost and freight (CFR) basis to about $1,000 a tonne in September (arrival November-December).

In hindsight, the reasons for the fall appear clear enough. “The fall is, in part, a correction, as prices had risen too far in the first place,” says Short. “But the pivotal reason is supply being greater than demand.”

Despite many signs of an impending price drop, the magnitude of the fall has come as a shock to analysts, many of whom believed just a few weeks ago that the high prices could be sustained for some time, given the voracious regional demand.

Prices may have dropped, but these analysts insist that high prices will remain, in comparison with the figures of $700 a tonne just 12 months ago.

Cyclical industry

“Prices can stay high as there is good support for them,” says one London-based metals analyst. “Next year, they may go down 15-20 per cent depending on the actual steel price. But a drop of 40 per cent is hard to envisage.”

Others acknowledge that steel is a cyclical business and say a drop was clearly coming, although again, the timing and magnitude of the drop were far from clear. “For two or three years, prices have been high, so it is likely that producers will have to give some of that back in the next six to 12 months,” says another analyst.

According to a report in May by the International Iron & Steel Statistics Bureau (ISSB), unless global demand slows markedly, international iron and steel prices are expected to remain high. The bureau says steel prices at their peak were inflicting a slowdown in demand for various steel products such as scrap, which is also used in making billets and then converted into rebar.

The effect of this was most keenly felt by construction contractors. Those who won contracts on the basis of relatively low steel prices had to deal with increasingly narrow profit margins. This, combined with rising inflation, has affected the viability of many projects - a particular problem in Asia, says Peter Fish, managing director of independent steel industry analyst MEPS International.

There were three main factors behind steel’s rise earlier in the year, and these largely remain despite the recent drop in prices. The price of steel feedstocks - iron ore, coking coal and scrap steel - remain high, as do freight rates, driven up by the sustained highs in crude oil prices.

Developments in China also continue to play a role. Over the past two years, China has imposed various export tariffs on steel, with the aim of limiting the use of valuable resources such as coal and electricity to transform iron into steel for the export market. There is mounting anecdotal evidence that these tariffs could increase to further rein in China’s steel export activities, possibly as soon as October or November, says the London analyst.

The effect of Chinese export tariffs on long steel products (the term encompassing rebar and billets) has been to take 2-3 million tonnes of marginal export supply a month off the international market. “The cumulative effect of successive monthly shortfalls, helped by speculative physical buying, spiralled prices upwards,” says Short.

Chinese expansion

By the time global prices hit $1,500 a tonne in July, Chinese steel prices, previously expensive compared with Turkish rebar, had become more attractive despite the export tariff. With greater export volumes booked, particularly steel from China, the market was seeing the effect of better CFR price levels, while canny traders had worked their way around paying some of the export tax.

It remains unclear what part the Beijing Olympics has played in the price fluctuation. In and around Beijing, 8,000 construction sites shut down in July and are set to remain closed until the end of September. Domestic manufacturing activity is also down, affecting prices to a much lesser degree than the global economic slowdown, but this has led to some stockpiling, putting downward pressure on steel prices.

There is certainly evidence of a severe inventory hangover in the Gulf. Sources suggest stock levels are in the region of 1.5-2 million tonnes, a figure that “sounds like 50 per cent of the total annual requirement in Dubai, and gives an idea of the magnitude of the hangover”, says Francis Browne, director of steel at energy information provider Platts.

It is not an easy number to quantify, Browne adds, as it is not clear if the actual tonnes are in storage in Turkey, the main export source for the GCC, on the water, or in Jebel Ali port in the UAE. Nevertheless, the tonnes are in the system, and have become a primary factor in price negotiations.

Several steel producers in Turkey say they are idling their mills because of poor demand for rebar on the back of high stocks. Ajay Aggarwal, CEO of UAE-based RAK Steel, says he does not expect the situation to improve before the end of the year.
“We have had to put our plant on maintenance for the second time in two months,” he says. “The only way forward is if all producers cut down production, until the supply and demand balance is redressed.”

RAK’s plant has a capacity of 400,000 tonnes a year, meaning it could lose as much as 10,000 tonnes of production during a two-week maintenance exercise.

Reflecting Aggarwal’s view, some sources lay the blame for the high stock levels with opportunistic producers that have naturally been eager to take advantage of surging prices. Market speculators have also played a role.

“This is the first time, to my knowledge, that people outside the fraternity of the supply chain have jumped into the market. People who have nothing to do with steel - the tyre guy, the textile guy etc,” says Aggarwal. “They all bought steel and started selling it without a clue about what to do with it.”

The DGCX launched a steel rebar futures contract in October 2007. While the contract has so far been thinly traded, DGCX officials remain optimistic for the long term.

“What this cycle has shown is that you can use the exchange to lock in prices to secure certain profit returns,” says Short. “It will become a more popular tool. Volatile price cycles help people to appreciate the upside of managing price risk properly.

“As prices went up through October to July, the only people interested in hedging their prices were contractors. But they could not find anyone on the other side to sell, because the sellers were all happy making more and more money in physical steel.

“Since July, it has been the sellers who have been saying they wish they had hedged physical prices at $1,500 a tonne. Because they did not, now they can realise far less. Today, buyers on the exchange are outnumbered by sellers.”

Regional growth

Although historically the Gulf has not been the biggest steel buyer on the global markets, its importance has grown in line with the exponential regional growth in construction projects. Of this, about $440bn has already been awarded, with Saudi Arabia and the UAE the main engines of growth as the largest projects markets.

Saudi Arabia contributes only 0.5 per cent to global steel output, but the kingdom consumed 497kg per capita in 2007, compared with China’s 268kg per capita consumption. This is expected to rise by 12 per cent to 557kg this year, says Said al-Sheikh, chief economist at Saudi Arabia’s National Com-mercial Bank.

With steel accounting for about 10 per cent of construction costs, steel producers look set to earn about $44bn from projects in progress. Any prudent buyer witnessing the slide in prices would be reluctant to commit to monthly or even weekly purchases.
“Demand has been sliced into smaller segments, so every week we are negotiating a new price for the same customers,” says Aggarwal.

How the construction sector re-emerges from the typical Ramadan slowdown will be one of the key issues that will determine prices. In terms of onsite activity, the construction market has so far been stronger than, or at least equal to, last year, say sources, but actual demand is down because of the extent of stockpiling.

“There is no buying,” says Browne. “Ramadan is traditionally a period of economic quiet. We expect a pick-up in activity, but whether this translates into increased prices will depend on what other material is available, and how other economies are doing at the time. A large part will also depend on how much the Turkish community wants to sell.”

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