Commentary

As if to underline just how much of the recent froth in commodity prices has been speculative, it took nothing more than a tightening of rules to bring the market off the boil.

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Iron ore, steel and non-ferrous metal markets in China — and by association the London Metal Exchange after opening — dropped following a decision by futures exchanges in Dalian, Shanghai and Zhengzhou to increase trading margins and fees. The most-traded contracts were down up to 4.6% in response.

Some Commodities Are Actually in Short Supply

Not all commodities dropped. Some experienced genuine supply tightness, such as coking coal wherein many of the domestic mines and ovens closed last year due to low prices, and bucked the reversal. Coking coal continued to rise and although iron ore did fall back. The fundamentals are a little more supportive following announcements by producers that they will limit output, but, in truth, even iron ore’s price increases are more due to speculative bullishness than a genuine tightness of supply. Read more

In a complaint filed Tuesday with the U.S. International Trade Commission, U.S. Steel Corp. demanded penalties on Chinese steel imports which could include a total ban on imports into the country. U.S. Steel said that Chinese steelmakers conspired to fix prices, stole trade secrets and circumvented duties with false labeling in filing a section 337 petition.

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“We have said that we will use every tool available to fight for fair trade,” said Mr. Longhi. “With today’s filing, we continue the work we have pursued through countervailing and anti-dumping cases and pushing for increased enforcement of existing laws.”

How to Prove Unfair Competition?

But what, exactly, is a section 337 petition? What law is U.S. alleging Chinese producers Hebei Iron & Steel Group, Anshan Iron and Steel Group and Shandong Iron & Steel Group Co. violated? The ITC provides us with a handy frequently asked questions page. It reports that “most Section 337 investigations involve allegations of patent or registered trademark infringement. Other forms of unfair competition, such as misappropriation of trade secrets, trade dress infringement, passing off, false advertising, and violations of the antitrust laws, may also be asserted.”

Chinese black hat hacker steals password from computer screen concept

Chinese black hat hacker steals password. Source: Adobe Stock/beebright.

China has been implicated in stealing trade secrets before, and U.S. Steel was one of the victims. In 2014, a U.S. grand jury indicted five members of China’s People’s Liberation Army on charges they stole information from U.S. Steel and other American firms. Computer hacking, espionage and other charges were alleged in federal court in Western Pennsylvania (U.S. Steel is headquartered in Pittsburgh). Other victims of the alleged hacking included the U.S. arm of SolarWorld AG, Westinghouse Electric Co., Allegheny Technologies Inc. and Alcoa, Inc. Read more

Allegheny Technologies, Inc., reported in its first quarter earnings call this week that its high-performance materials and components segment sales were up. Sales were $493 million in the first quarter, up approximately 8% compared to the fourth quarter of 2015. 73% of segment sales were to the aerospace and defense market.

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Operating profit increased by nearly 40%, compared to the fourth-quarter 2015. Segment operating profit was 5.9% of sales.

New Generation of Jet Engine Parts

ATI’s product mix improved through increased sales of next-generation jet engine advanced materials. Sales of nickel-based alloys and specialty alloys increased by 8%, and sales of titanium and titanium alloys increased by 17%. Sales of ATI’s precision forgings increased 15%, driven nearly exclusively by growing demand for jet engine components and airframe forgings.

StuartsF35_500

ATI is very pleased with its sales of airframe and jet engine materials.

“Our differentiated products here include proprietary and unique alloys, as well as products that few others can make,” ATI CEO and President Richard Harshman said, “such as ATI 718+ alloy, Rene 65 alloy, ATI 720 alloy large billets, plasma arc-melted titanium alloys, powder metals, titanium aluminides, as well as hot-die forgings, isothermal forgings and titanium investment castings.”

PAM Power

ATI is currently the only qualified plasma arc melt producer of titanium alloys used for jet engine rotating parts.

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PAM is the preferred process for titanium alloys used in jet engine rotating parts for much of the industry.

“ATI has the most powerful open-die press forge in the industry, which enables fine-grained structure in complex nickel-based super alloy billet and the billetizing of powder alloys,” Harshman said. “ATI is one of only two independent and integrated qualified producers of nickel super-alloy powders and isothermal forged parts.”

The Financial Times wrote this week that a key driver of bullish sentiment for many asset classes, particularly emerging markets and commodities, has been the U.S. Federal Reserve lowering its estimate of policy tightening this year, but for metals the knock-on effect of that has been a weaker U.S. dollar which — as my colleague Raul De Frutos has written recently — remains a key driver of both price direction and sentiment.

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Equally, if not more important, though, has been the sugar rush of China’s not-so-mini fiscal stimulus, initiated late last year which has really picked up momentum in the first quarter. Across a number of metrics, China’s economy has surged this year driving a risk on sentiment among investors, the strength of which has caught many by surprise.

Stimulus-Driven Bull Market

Chinese speculative investors have piled into the country’s commodity markets betting the upturn has the potential to boost demand for those materials. Wider sentiment has helped, according to the London Telegraph, new home sales jumped 64% in March from a year earlier. Housing prices have risen 28% in Beijing, 30% in Shanghai, and 6% in the commercial hub of Shenzhen. Read more

It would seem Iran is not the only major Middle East economy on the cusp of radical change. If the espoused wishes of deputy crown prince Mohammed bin Salman al-Saud (or MbS as the media have got into the habit of calling him) are realized, the desert kingdom is in for a period of change over the next decade that would be unprecedented in it’s recent history.

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Certainly, oil has transformed the kingdom since it was first commercially extracted in 1938 but the culture of Saudi society has been carefully nurtured, protected, even shielded — one might say — from the corrupting influence of the outside world.

Group of big fuel tanks. Ras Tanura oil terminal, Saudi Arabia

A group of fuel tanks in the Ras Tanura oil terminal in Saudi Arabia. If Prince Mohammad has his way, this will someday be a thing of the past in the kingdom. Source: AdobeStock/eugenesergeev.

Yet the days of a close compact between the House of Saud dynastic monarchy and the religious Wahhabi clerical establishment that, in exchange for control over education and the judiciary, has provided the rulers with legitimacy, may be seeing the beginning of its end.

The Prince’s Plan

The new King Salman’s son, Prince Mohammad, believes Saudi Arabia has been addicted to oil, an addiction that has cost it dearly in terms of economic development and progress. Trying to look into the future, he clearly feels Saudi Arabia needs to face up to the march of time before it is too late. Read more

Allegheny Technologies, Inc., hosted its first quarter earnings call yesterday morning and reported higher earnings for many of the specialty metal markets it serves, while admitting it has not yet “right-sized” its flat-rolled products business. ATI booked a net loss of $101 million ($0.94 cents per share), a loss that was less than most analysts anticipated.

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Revenue for the first quarter fell 33% year-over.year to $758 million.

ATI's Brackenridge facility is the future and commodity stainless is its past. Source: ATI

ATI executives noted during yesterday’s conference call and webcast the company’s Brackenridge production facility is only open three days, with three shifts each day. ATI would like to increase production there. Source: ATI

“Our High Performance Materials and Components segment is well positioned for profitable growth over the next five years, driven primarily by strong and growing demand from commercial aerospace,” ATI CEO Richard Harshman said. “We are committed to making the tough decisions to return our flat-rolled products segment to sustained profitability. This requires the business to be repositioned and restructured and to be more focused on differentiated products that have higher technical barriers to entry and serve markets that are global with attractive long-term growth prospects.”

Aerospace Products

Harshman and ATI’s executive team reported that the commercial aerospace market, which ATI has pursued as a growth market for the last two years, was starting to show dividends.

“ATI sales to the aerospace and defense markets grew 12% in the first quarter of 2016, compared to the fourth quarter 2015,” Harshman said. “Breaking that growth rate down by specific end markets, sales to the commercial aerospace market grew approximately 20%, with jet engine sales growth of nearly 15% and airframe sales growth of nearly 30%.”

Quarterly Numbers

The overall sales total of $758 million was up 3% over the fourth quarter of 2015, even though it was down year-over-year. High-performance materials and components sales were $493 million, up 8% over Q4 2015. Flat-rolled product sales, though, totaled $265 million, down 6% over Q4 2015. Harshman and the other ATI executives blamed the long work stoppage that ATI weathered for more than 8 months and said that production would increase with United Steelworkers personnel back on the job. ATI attributed $26 million of pre-tax costs to the work stoppage and labor contract return-to-work provisions.

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ATI also booked a $9 million for severance packages from recent flat-rolled products layoffs.

China has a dilemma.

On the one hand, popular protests due to increasing levels of pollution are an expression of growing unrest among China’s rising middle classes, all conscious of environmental issues.

Too Much Pollution

Pollution is a source of international shame that has prompted Beijing to take the drastic steps of closing down coal-fired power generation and coal-consuming heavy industry around cities hosting major events such as the Olympic games and flower festivals, so that the People’s Republic can show a clean face to the world.

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On the other hand, that same coal is mined by some 5 million coal workers who have already come onto the streets to protest loudly and publicly about proposed rationalization in the industry and Beijing is nothing if not sensitive to public protest.

Could 2015 be the beginning of the end for coal-fired power in the US? Source: Adobe Stock/Snap Happy

Coal-fired power continues to dominate Chinese power  generation. Source: Adobe Stock/Snap Happy

So, what to do? close coal mines and coal-fired power stations or keep them open and suffer the atmospheric pollution and health hazards that involves?

Pollution Exports

The answer, as with so much else in China, is export it so it’s someone else’s problem. In this case, the policy appears to have been to export the pollution and hence the problem westwards and centrally to less-affluent and less-populated areas.

According to the Financial Times, pollution has decreased in Beijing and Shanghai while it has increased in the interior. Beijing’s smog has been lifting, the average concentration fine particulate pollution (PM2.5) is down 28% year-on-year in the first three months of this year. Read more

A war over steel imports has broken out yet again between the world’s two largest producer nations: China & India.

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The Steel Authority of India Ltd. and JSW Steel & Essar Steel India filed a complaint with India’s Directorate General of Anti-Dumping and Allied Duties, seeking an anti-dumping investigation as well as the imposition of tariffs on steel imports from six countries. Soon thereafter, the DGAD said it had prima facie evidence of dumping of steel originating from China, Japan, Russia, Korea, Brazil  and Indonesia.

Chinese Production vs. Indian Production

China is the world’s biggest steel producer, accounting for around 822 million tons a year. Driven largely by a fast track economy in the past quarter century, China’s steel output has grown by more than 12 times it’s size in the ’80s. By comparison, the EU’s output fell by 12% while U.S. output has remained flat. Of late, China has found itself in the midst of dumping controversies involving many countries it sends exports to, including the U.S., the European Union and Australia.

Steel mills Molten iron smelting furnace production line

Chinese steel production is the target of India’s anti-dumping probe. Source: Adobe Stock/zjk.

The Indian probe’s purpose is to establish the “existence, degree and effect of dumping” by the six nations. If found to be true, it will then recommend a minimum amount of anti-dumping duties. The probe covers hot-rolled flat products of alloy or non-alloy steel in coils, as well as hot-rolled flat products of alloy or non-alloy steel not in coils. Most of these products are used in the the automotive, oil and gas line pipes/exploration, cold-rolling, pipe and tube manufacturing industries.

Trade between China and India has been growing but individually, the two are polar opposites so far as global exports are concerned. India’s exports account for just 1.7% of world trade, compared with nearly 12% for China’s. China exported 112 million metric tons of steel in 2015, which was 25% more than India’s total production of steel. India produced 92 mmt of steel in its 2014-15 fiscal year, while it imported over 9.32 mmt of steel, of which, an estimated 30% came from China.

Meanwhile, on the other side of the globe in Belgium, international steel producing countries, too, called for urgent action to curb overproduction.

A joint statement from the U.S., Canada, the E.U., Japan, Mexico, South Korea, Switzerland and Turkey, called calls for “ongoing international dialogue” to remove “market-distorting policies.”

But China rejected suggestions that it subsidized its loss-making steel companies.

India has often used anti-dumping duties and also imposed safeguard duties due to such import surges.

A few days ago, the Indian government extended the safeguard duty on steel imports until March 2018, after having first imposed them in September 2015. There will be no safeguard duties on steel imported at or above the minimum import price (MIP) stipulated by the government.

Anti-Dumping or Countervailing Duties?

Both, anti-dumping and countervailing duties try to rectify the same issue: low-priced imports. But the difference between the two is the real cause of the low price.

Anti-dumping duties are used to tackle “dumping,” a legal definition for imports whose price is lower than their production cost. An exporter sets steel prices lower than production costs and floods other markets with such steel products. If a Chinese producer spends $120 per mt to make cold-rolled steel, and then sells it in the Indian market for $90 mt, while his Indian counterparts are selling their produce for $110, then these imports are based on a predatory pricing model that is either indirectly subsidized in the originating country, or takes advantage of a lower-valued currency and production costs back home.

On the other hand, countervailing duties seek to counter low prices that are an outcome of direct subsidies. The Chinese government, like some others, offers subsidies on exports in the form of tax breaks. As a result, exporters can offer lower prices than domestic producers. Countervailing duties level the playing field by negating the advantage of direct government sponsorship by increasing import tariffs to level the playing field.

Such duties are allowed by the World Trade Organization under the General Agreement on Trade and Tariffs (GATT) but only if dumping is established. Anti-dumping duties have to be removed if the margin between the domestic price and imported price goes below 2%, or when the imports of product from a country account for less than 3% of total imports of the product.

Also, the WTO says safeguard and anti-dumping duties cannot be country specific. So, if India or the U.S. imposes duties on imports from China, the latter can also impose duties on imports from those two nations.

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This is what China is now pointing out to India. A few days ago, the world’s top steel maker asked India not to resort to “trade protection measures” and to “strictly follow” WTO rules while investigating cases of dumping by Chinese iron and steel exporters. Steel overcapacity is a worldwide problem which requires a joint effort from all countries, an unnamed Chinese official was quoted as saying by the official Xinhua news agency.

If you had been asleep for the last month, woke up this morning and picked up a paper you could be forgiven for thinking you had been transported back to 2009.

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Chinese construction is up 20% last month year-on-year, Chinese loans were up 41% last month, the government is raising exchange-margin requirements from 5 to 8% to dampen rampant speculative behavior, should we go on?

Is it 2009 Again?

Turn to commodity prices, copper is up 20% this quarter, zinc is up 22%, iron ore has nearly doubled, hitting $70 per metric ton and a 16-month high according to Bloomberg. Steel mills in China, encouraged by rising prices and strong construction demand, churned out over 70 million metric tons last month, nearly equivalent to the entire U.S. annual output. Sound like the start of the supercycle to you?

Iron ore producers are trying to take credit for cutting back on expansion of iron ore mines and are indicating they would limit production to support prices, but, in reality, they are tinkering at the margins. Read more

Andrew Lane, source: Morningstar.

Andrew Lane. Source: Morningstar.

MetalMiner Editor Jeff Yoders recently had a chance to discuss the broad commodities rally, individual metals markets and other related news with Morningstar Senior Equity Research Analyst Andrew Lane, (here he is talking about Alcoa, Inc. on CNBC). The Chicago-based, independent investment research firm recently released its Basic Materials Observer.

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Morningstar warns that  basic materials stocks look somewhat overvalued, with the average company under its coverage trading at a 12% premium to their analysts’ fair value estimate. That’s not to say that Morningstar’s analysts don’t see pockets of significantly undervalued companies in the sector.  Key takeaways:

  • Despite the recent rally in some commodity prices, Morningstar analysts’ outlook for commodities related to Chinese fixed-asset investment remains negative.
  • Price outlooks are relatively better for commodities related to the Chinese consumer. However, Morningstar analysts would preach caution on the recent safe-haven gold rally.
  • With faltering Chinese growth likely to wreak havoc on investment-oriented commodities, the analysts look to U.S. housing as a pocket of opportunity. Morningstar analysts believe housing starts will be driven higher during 2016.

In discussing the ongoing steel overcapacity issue, Lane said that any real recovery in demand in the Chinese economy is still far away, hindering the demand outlook from what was once the main driver for worldwide production.

“Any real recovery can’t come until past 2020 which is as far our long-term outlooks go,” he said. “The funding for these loss-making facilities, it has to run out at some time. It remains to be seen how far the local governments in China can kick the can down the road by keeping their local and provincial capacity open with access to this (loan) capital. It’s a game that can’t go on forever but… we tend to think that they can maintain current production levels for a lot longer than most people give them credit for.” Read more