January/February 2014
The economic recovery thus far has been uneven, with commodities struggling in the past year while other sectors rose. Scrap recyclers hope that signs the U.S. and global economies are moving toward greater balance in 2014 will hold true.
By Joe Pickard
If you’ve kept up with the news, you know that U.S. economic growth is accelerating, businesses continue to add jobs, and industrial production is back on track. But the economic recovery has been far from even, reviving some business sectors, regions, and labor segments in recent years and not others. And as more than one scrap recycler can attest, the generally improving U.S. economic conditions haven’t always translated into more favorable scrap and commodity markets. The mixed performance of various asset classes also reflects the uneven recovery, with the stock market touching new highs in 2013 but commodity prices coming under renewed pressure. While many forecasters expect only modest U.S. economic growth in 2014, a confluence of trends in the United States and globally could make that growth more balanced this year, bringing welcome change from the ups and downs of the recent past.
A Global Problem
The uneven economic recovery has persisted longer than many expected—and not just in the United States. In the eurozone, for example, November 2013 unemployment rates ranged as low as 4.8 percent in Austria and as high as 27.4 percent in Greece, with sharply higher levels of youth unemployment throughout the zone, Eurostat (Brussels) reports. For 2013 overall, economic growth in the European Union edged up 0.02 percent, according to projections from the International Monetary Fund (Washington, D.C.). In contrast, the economies in what it calls “developing Asia”—China, India, and 27 other Asian nations—grew 6.3 percent last year, the IMF says. Even China’s rapid growth has moderated, as Beijing struggles to promote economic growth, sustainable development, and price stability while addressing widening Chinese income disparity and its pressing need for financial market reform.
In the United States, although real gross domestic product expanded 4.1 percent in the third quarter last year—the fastest growth rate since the fourth quarter of 2011—not all sectors of the economy shared equally in the gains, reports the Bureau of Economic Analysis (Washington, D.C.). According to BEA figures, corporate profits at financial institutions rose nearly 10 percent in the third quarter of 2013 while profits at producers of fabricated metal products declined 0.7 percent. Similarly, the gulf between the performance of equities and commodities widened last year, with the Dow Jones industrial average surging 26.5 percent but the DJ-UBS commodity index falling nearly 10 percent.
Commodities Seek Stable Footing
Commodities provide an illustrative example of how quickly markets can get out of whack and then return to balance. As Chinese demand for commodities ramped up prior to the recession in 2008, prices for everything from metals to oil to agricultural products skyrocketed, attracting investment flows into commodity-related assets and prompting raw material suppliers—including scrap recyclers—to expand production and processing capacity. The momentum continued after the recession began, as developing economies’ demand for commodities held steady or grew for several more years. From the beginning of 2009 through the first half of 2011, commodity index funds gained $63 billion in additional investment, Barclays (London) says. Since then, investors have pulled out almost $15 billion from those funds, the bank reports. The flight of investment dollars from commodities into other asset classes came as excess production and slowing global demand, especially in China, resulted in global market surpluses for a range of commodities. While extremely accommodative monetary policies and ultra-low interest rates kept some excess supply in exchange warehouses—and, hence, out of the physical marketplace—the combined effect of deteriorating market fundamentals, investor flight, and the potential for tighter monetary policy eventually weighed on prices in 2012 and 2013.
In response to the weaker prices, several metal producers announced plans to scale back or eliminate excess production capacity. Further consolidation and rationalization in the scrap industry is possible as well, given the sharp expansion in processing capacity during the supercycle years from the early 2000s to 2011 and subsequent compression of profit margins due to intense competition for scrap.
Although this won’t bring all metal markets back to global supply deficits in 2014, if mining and metal companies, including recyclers, adjust their production capabilities in reaction to changing market dynamics, the excess capacity and production surpluses forecast for a range of commodities in 2014 might not be as bad as analysts have predicted. Whether this could lead to a reallocation of investment between equities and commodities this year remains an open question. Although investors appeared wary about returning to commodities at the start of 2014, a recent Wall Street Journal report sees a battle between stocks and commodities brewing as investors question whether equity prices are now too high or commodity prices too low given the expectations for growth this year.
Shifts Afoot in Manufacturing, Trade
Along with potential adjustments to commodity market fundamentals and asset allocation, some other tricky balancing acts this year include efforts by the Federal Reserve (Washington, D.C.) to scale back its economic stimulus without scaring investors and choking off growth; China’s renewed commitment to maintaining relatively rapid growth while improving environmental protection; and the need to support growth along the European periphery without damaging the cohesion of the EU. Above all, the world is facing the question of whether new global shifts in manufacturing output, consumption, and trade flows between developing and developed economies are consistent with faster global economic growth.
Looking forward, the IMF forecasts that world GDP growth will accelerate from 2.9 percent in 2013 to 3.6 percent this year. While China’s growth likely will continue to outstrip gains in the United States and Europe, real GDP growth in China is expected to slow from 7.6 percent in 2013 to 7.3 percent in 2014, the slowest growth rate since 1990. Figures on the Chinese manufacturing sector also reflect this slower growth. The HSBC/Markit manufacturing purchasing managers’ index for China came in at 50.5 in December 2013, the worst reading in three months. In contrast, the Markit manufacturing PMI figure for the eurozone rose to 52.7 in December—the highest reading in 31 months—while the corresponding figure for the United States rose to 55, signaling even faster expansion in U.S. manufacturing.
Does this mean that all the manufacturing capacity that migrated from West to East in recent decades is going to return home? Probably not. While the global nature of today’s manufacturing supply chain remains firmly in place, the data suggest that improving manufacturing output in the developed economies might contribute to a more balanced trade picture. Total U.S. exports in November 2013, for instance, rose $1.7 billion, to almost $195 billion, while the U.S. trade deficit narrowed to $34 billion for the month, the lowest level in more than four years, the U.S. Department of Commerce (Washington, D.C.) reports. Meanwhile, recent Chinese figures show that its trade surplus declined from $34 billion in November to $25.6 billion in December. In addition, the HSBC/Markit sub-index for new Chinese export orders for December fell to 49.1, the first below-50 reading since August and further evidence that trade balances could be shifting.
Causes for Optimism
Given 2013’s uneven economic legacy, why would anyone expect conditions to improve in 2014? Some commonly cited grounds for optimism include the stronger U.S. job market, declining household debt, improvements in the housing market, healthier corporate balance sheets, rising equity values, historically low interest rates, and the potential for faster growth in the rest of the world. Just as important, the business cycle appears to be entering a stage of rebalancing global growth, trade, manufacturing, and asset allocation, and governments are taking a more balanced approach toward monetary and fiscal policies. Although significant risks remain, successful global rebalancing should bode well for economic recovery and the scrap industry. Here’s a look at how global economic trends and other key factors could affect the major scrap commodities in 2014.
Aluminum
The light metal is a prime example of a market in search of balance. While more than 5.45 million mt of aluminum sit in London Metal Exchange warehouses, world aluminum production continues to rise. Reported aluminum production in China alone surpassed 20 million mt from January to November 2013, an 11-percent increase from the corresponding period in 2012, the International Aluminium Institute (London) reports. Concerns about excess aluminum supply, investment outflows from commodities, and the coming changes to LME warehouse load-out rate rules have weighed on aluminum market sentiment and prices. The average LME official three-month aluminum price fell from $2,049 a mt in 2012 to $1,887 in 2013.
The LME load-out rule changes are intended to reduce the time it takes to receive metal deliveries from its warehouses, which could cut into the physical market premiums. As of early January, those premiums had risen to record levels, and analysts speculate that premiums could remain high if aluminum stocks simply shift to off-exchange warehouses. Although Alcoa (New York) predicts that global aluminum demand will rise 7 percent in 2014, most analysts expect the global aluminum market to remain in surplus this year. As of December, Goldman Sachs Group (New York) had a 12-month aluminum price forecast of $1,750 a mt. Should prices continue to fall, further production cutbacks could be in the works.
Copper
Copper prices came under renewed pressure for most of 2013 as investors expected slower Chinese growth and rising copper supply. The average LME three-month copper price dropped to $7,345 a mt in 2013, down from $7,945 in 2012 and more than $8,800 in 2011. As refined copper prices fell, copper scrap seemed in short supply despite falling overseas demand. U.S. exports of copper scrap to China from January to November 2013 were down nearly 4 percent year on year, to just over 780,000 mt, according to data from the Census Bureau (Suitland, Md.). In contrast, China’s apparent demand for refined copper increased nearly 6 percent in the first nine months of 2013, the International Copper Study Group (Lisbon) reports.
Although the ICSG figures show that global copper mine production increased nearly 9 percent in the first nine months of 2013 compared with that period the previous year, the expected world copper supply surplus has yet to materialize. Instead, rising world refined copper use contributed to a production deficit of 210,000 mt in that period. In 2014, ICSG expects expansions and project startups to push copper supply higher, outstripping gains in use and resulting in a 632,000 mt surplus. As a result, Macquarie Research (London) forecasts an average 2014 copper price of $6,550 a mt. Other analysts point to the December rise in copper prices, falling LME copper stocks, tighter copper scrap availability, and potential supply disruptions as indicators of more balanced market conditions ahead.
Iron and Steel
As it is with other commodities, China remains the driving force in the steel market. Chinese crude steel production from January to November 2013 approached 713 million mt, up 8 percent compared with the same period in 2012 and constituting nearly half of global steel production, according to the World Steel Association (Brussels). Officials from the China Iron and Steel Association (Beijing) expect the country’s output to hit 800 million mt in 2014. Although excess Chinese steel output can weigh on global steel prices, U.S. hot-rolled coil rose to $680 a short ton, FOB Midwest mill, in December, its highest level since April 2012, based on The Steel Index (London) monthly reference price.
Higher Chinese steel output has boosted its import demand for raw materials. Australian iron ore exports from Port Hedland to China rose 34 percent last year, to 256 million mt, the Wall Street Journal says. U.S. exports of ferrous steel scrap to China, excluding stainless steel and alloy steel scrap, rebounded 8 percent year on year, to 1.46 million mt, in the January to November 2013 period, Census Bureau figures show. At the same time, U.S. scrap demand from other key overseas destinations—including Turkey, Taiwan, and South Korea—declined sharply. With the firming of domestic ferrous scrap prices at the end of 2013, continued consolidation in the U.S. steel industry, and ongoing efforts to curtail steel production in China’s Hebei province, the World Bank (Washington, D.C.) forecasts that iron ore prices will hold up at $135 a dry mt in 2014, boding well for other steel input prices.
Lead and Zinc
Compared with tags for other metals, lead and zinc prices held up relatively well last year. The LME official three-month asking price for lead ended 2013 at $2,232.50 a mt, down less than 5 percent from the end of 2012, while the corresponding zinc price ended the year at $2,071, a slight increase from the last trading day of 2012. Improving market fundamentals and declining LME stocks for the sister metals were supportive. According to estimates from the International Lead and Zinc Study Group (Lisbon), the global market for refined lead posted a 54,000 mt deficit in the January to October 2013 period, while refined zinc had a 2,000 mt deficit in the same time frame. The increase in zinc use through October reflected stronger apparent demand in China (up 12.9 percent) as well as in India, Thailand, Turkey, and the United States.
Improving demand for refined lead has coincided not only with falling LME lead metal stocks but also with improving overseas demand for lead-based scrap. Through November 2013, the volume of U.S. exports of lead scrap and spent lead-acid batteries advanced 38 percent and 13 percent, respectively, according to Census Bureau data. For 2014, ILZSG expects the global refined lead market to be in a supply deficit for the first time since 2009, while the zinc metal surplus will be smaller than in years past. With those market fundamentals, Macquarie Research forecasts that average lead and zinc prices will be around $2,225 and $1,988 a mt, respectively.
Nickel and Stainless Steel
Last year was tough on nickel and stainless steel scrap market participants. After hitting a 2012 high of $21,880 a mt, the LME official three-month asking price plunged as low as $13,245 in July 2013 amid reports of lackluster demand and excess supply. Domestic consumption of purchased and home stainless steel scrap from January to October 2013 was little changed, at 1.1 million mt, compared with the same period in 2012, according to figures from the U.S. Geological Survey (Reston, Va.). Through November, overseas demand for U.S. stainless steel scrap edged up 3 percent, year on year, to more than 590,000 mt, as improved demand from China, South Korea, and Pakistan more than offset lighter buying from Taiwan and India, the Census Bureau reports.
As 2014 began, Indonesia remained the focus of attention as its government planned to prohibit exports of unprocessed metal ores, including nickel ore, starting in January. As with that country’s previously planned export bans, there was considerable confusion over whether the government would relax the ban to exclude copper concentrates and iron ore, but press reports in January indicated the ban would remain in place for unprocessed nickel, bauxite, and tin ore. In light of this ban, Citigroup (New York) recently raised its average 2014 nickel price forecast to $17,000 a mt.
Paper and Recovered Fiber
Recovered paper and paperboard market conditions already were showing some signs of rebalancing heading into 2014. Domestic mill prices for OCC were unchanged in nearly all regions in early January, despite increased paper and board generation in the holiday period, PPI Pulp & Paper Week (Bedford, Mass.) reports. Domestic prices for ONP and mixed paper were similarly steady at the start of the year even though U.S. paper mills reportedly had ample inventories. In contrast, U.S. exports of recovered fiber in the January to November 2013 period declined 5 percent year on year, to 19.2 million tons, Census Bureau figures show.
Although diminished Chinese demand for U.S. recovered paper was the largest contributor to the export drop last year, Census Bureau data show that U.S. scrap paper shipments to China increased in October and November. Many expected China’s Green Fence initiative to restrict imports of mixed paper in particular, but trade statistics from China Customs show that China imported 0.6 percent more mixed paper, just over 4 million tons, in the first three quarters last year. “With increased focus on quality controls and growing awareness of the ‘Green Fence’ requirements, market confidence and export levels both stabilized” in the fourth quarter of 2013, said Ranjit Baxi of J&H Sales International (London), former Paper Division president for the Bureau of International Recycling (Brussels). Rising Chinese paper and paperboard output—and a more balanced period of world economic growth—could lead to even more stable paper market conditions in 2014.
Joe Pickard is chief economist and director of commodities for ISRI.
The economic recovery thus far has been uneven, with commodities struggling in the past year while other sectors rose. Scrap recyclers hope that signs the U.S. and global economies are moving toward greater balance in 2014 will hold true.