China: June sees steel supply-demand mismatch; What to expect in H2?

• China’s domestic steel market weak amid low demand, oversupply
  
  
• Subdued domestic sales in May push up steel exports 47% m-o-m but fall during Jan-May
  
  
• Second half may look up as policy booster shots start taking effect
  
  

Morning Brief: After remaining weak in April and May, China’s domestic steel market had shown signs of recovery in the past week or so. In the spot market, steel prices also saw a significant upward trend since end-May. For instance, the average price of steel on 7 June was pegged at RMB 5,125/t ($786/t), which was higher than RMB 5,071/t ($760/t) on May 26.

However, due to the approaching off-season, demand has weakened again in the past two days. Stocking before or after the Dragon Boat Festival holidays, which started on 3 June, has not touched the expected levels.

Analysts said, since May, despite the policy measures, due to Covid, the market's "strong expectations" have not been fulfilled, resulting in demand being mainly down.

Exports rise in May

China’s steel exports in May 2022 rose a sharp 47.2% y-o-y to 7.759 mnt. However, in January-May, the volume showed a y-o-y drop of 16.2% to 25.915 mnt.

However, it is to be noted that the sharp spurt seen in May was a transient phenomenon and volumes are likely to fall back again as China’s domestic demand gradually improves. The rise in May can be attributed to the weak domestic market due to the strict lockdown amid the Covid upsurge. Thus, mills resorted to overseas sales to offset dried-up home demand. Secondly, the Russia-Ukraine war led to steel supply disruptions in Europe, leading to China selling substantial volumes of slabs to the EU and flat products to Vietnam at highly competitive prices.

The country has adopted a policy of lessening exports to keep material within the country against the backdrop of continued production cuts in 2022. Thus, export volumes may taper off from here.

In May, steel imports comprised 806,000 tonne (t), a y-o-y decrease of 33.2%. From January to May, China imported 4.98 mnt of steel, a y-o-y decrease of 18.3%.

Iron ore: Iron ore and concentrate imports in May inched up 3% y-o-y to 92.517 mnt. Over January-May, imports of the same were down 5% y-o-y to 446.852 mnt.

Coal: Imports of coal and lignite in May 2022, stood at 20.549 mnt, up 2.3% y-o-y. Imports in January-May comprised 95.955 mnt, down 13.6% y-o-y.

Supply-demand mismatch in off-season intensifies

With June, China’s steel market has entered a transition period from the peak season to the off-season, when the downstream segment demand may decline due to weather-related influences.

At the same time, with strict Covid measures in place, steel manufacturers in the south have resumed operations, the supply chain logistics have been put back in place as mills wait for demand to recover.

The recent price fluctuations are not only a result of the policies, but also the supply-demand dynamics. At present, there is no news of production reduction from steel mills, and the factory warehouses are continuing to evacuate material to the trade and other user-segment warehouses.

The high temperature and rainy weather restrict construction activity. In the short term, demand will thus be limited. Demand is expected to resume but it is delayed, while there is oversupply.

Will the second half look up?

After steel prices experienced a sharp drop in May, the market needs to know where these will ultimately rest. Policy measures and rising raw materials may boost prices after the holidays. However, demand at this stage is the key factor which will decide whether the current prices can continue to rise. In the context of the off-season, demand does not have a strong driving force, so it is expected that the overall rebound in steel prices this week may be limited.

It is worth noting that after the cost downturn seen in May, the steel market may face a new round of rising cost pressures from June. After June, prices of iron ore and coke have begun to rise and may not fall from here. At current costs, steel mills are at or below the break-even line. If steel mills are currently using spot raw materials, then the cost is relatively low, and profitability may remain positive. But if the steel mills’ raw material inventory cycle is two or four weeks, and they are currently using material bought in early-to-mid May, they may incur losses.

But analysts believe the market will turn positive in the second half (H2) of the year. "The second quarter is the periodical bottom of the steel industry. After entering the third quarter, the market will gradually improve, and is expected to recover strongly in the second half of the year," an analyst said, on the basis of the recent policy boosters and with the resumption of production post-lockdown.

At present, the policies are in their initial stage of implementation. The policies will help to enhance consumption and increase investments, and the steel market will also benefit significantly in H2.

Where the whole year is concerned, the National Development and Reform Commission (NDRC) has clearly proposed to continue reduction in crude steel output, and profits are expected to tilt towards steel mills.