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Interviews

Supply-demand shake up

SteelOrbis Shanghai discusses iron ore prices, Chinese economic policies, and their effects on the Chinese and global steel industries with Haiming Qian, Managing Director of Shanghai-based steel and raw material trader Cumic Steel Limited.

 Due to the recent US dollar depreciation and natural disasters, the price of imported commodities in China continued to rise to even higher than the direct cost of production. In particular, the average price of iron ore increased by 62.6 percent in the first quarter of 2011. At present, among seven major steel products, the prices of four of them are below the direct cost. How long do you think this situation will last?

 HQ: In recent years, the three major miners of iron ore have had the most say in the market. In my opinion, only the emergence of many new mineral resources will change the game to a favorable situation for steelmakers together with the influence of finance pricing. However, the situation won’t change much in the next two or three years.

With tighter macro-control policy in the real estate market, steel consumption from the construction industry has shrunken substantially, whereas the imported inflation and seasonal restrictions on electricity have contributed to increasing steel prices. Between the mentioned two forces in play, which one do you think most influences steel prices in the market? And how do you forecast the price change in the second quarter of 2011?

HQ: I don’t think either of the two factors can dominate the price in the steel market.

I do believe that the two factors that affect prices in the steel market are finance and mentality of the market players. For the short term, the price is determined by the dynamics of the futures market. For example, sometimes the price might go up when demand is scarce, the inventory is ample, and the market is pessimistic; and the price might go down when the market is quite optimistic. It’s just impossible to forecast the price with very few factors. But I do believe that the price of steel won’t move up further if the dollar remains stable in Q2, because the price of iron ore is already high enough to influence the steel price. The current situation of soft demand and ample inventory also supports my pessimism. The price might be pushed up by financial means. However, without the depreciation of the dollar and ample finance to back it up, the higher price cannot be sustained.

As we all know, China reached several records of daily crude steel output in April. Do you think it is the response to real demand or the efforts to replenish inventory?

HQ: In my opinion, both theories hold water, because there are two kinds of demand: inventory demand and demand from end-users. Either one can cause a healthy demand for steel products. The third theory is that media reports (no matter true or false) may influence the market trend to push steel production.

The current profit distribution system in the steel industry is extremely unbalanced with the miners taking the lion’s share. What kind of influence does this unbalanced profit distribution system have on traders?

HQ: In 2010, Rio Tinto’s total yearly profit exceeded the aggregate profits of all the 77 steel enterprises in China. This reflects the strength of Rio Tinto, which cannot be shaken in a short time. Iron ore prices are mainly decided by policy and market demand. Last year, the price policy in the global iron ore market changed from the long-lasting yearly pricing mode to a quarterly pricing method. In this circumstance, the interaction of steel and iron ore prices has totally changed to the unilateral decision of iron ore prices. In the past few years, the steel market has encountered the problem of thin profits. However, as the shareholders of leading miners have strong control of the financial market, the financial market would be the main culprit of future iron ore pricing if the policy finally becomes futures pricing-oriented. Even when the market stays in a surplus supply status, the demand and supply dynamics would not necessarily influence the pricing trend. Firstly, the futures market will play a guiding role in iron ore prices. Secondly, after the economic crisis broke out and Chinese steel futures commenced trading on stock exchanges, there have been higher steel inventories in the Chinese market as stock reserve is a must in the futures market. In the case of oversupply, the three mining giants still have ability to solve the problem and keep the demand and supply in equilibrium. I expect, in two to three years, steel supply might largely exceed steel demand in China. For traders, under this circumstance, price changes would have a negative impact on them; meanwhile, traders are suffering thin profit margins.

Do you think the Chinese government’s structural optimization policy of eliminating outdated production capacities has had any positive effect? For traders, will the restructuring of the industry be beneficial?

HQ: It’s hard to say. In practice, this policy may encounter many issues such as job opportunity issues and its impact on local finance. In the short term, it might result in some negative effects. While some outdated capacities are eliminated, some may increase. In the long run, I figure there will be two results. First, the restructuring policy may bring some positive effects. Specifically, it’s easy for state-owned enterprises but hard for privately-owned enterprises. Secondly, the overall hardware and management level would be raised. Traders may have different opinions on this issue. Personally, I believe it would be good to set up a stable cooperation relationship with steel mills. The reduction of mill output would probably result in a decline in traders, but it would depend on the business strategy of the steel producers. For example, in South Korea and Japan, as steel mills generally adopt a kind of agency policy, traders who just have to focus on marketing would still hold some market share.

Will Japan’s earthquake and European economic depression bring new opportunities or challenges to Chinese steel exporters?

HQ: In the long term, the earthquake and economic depression would indeed bring some positive effects to Chinese steel exports as steel demand would increase for Japan’s rebuilding projects and for economic recovery in the European market. However, at present, the uncertainties in the market are impacting market confidence. In recent years, we have seen few direct imports from China to Japan especially for high-end materials—there is a better chance that Japan would purchase steel products from South Korea to cope with the domestic demand gap. Generally, South Korea buys steel products from China, and Japan buys from South Korea. For the time being, the buying power of Europe is stronger than the US. As the US recovers from the economic crisis, the global market will observe some fluctuations and funds will flow to the US. Consequently, in the short run, Europe will buy more than the US. On the whole, the steel market will eventually become better and better.


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