8-2009 Business Topics
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Mexico Sees Sustainable Uptrend in Steel Prices

This article was contributed by HARBOR intelligence, a consulting firm that publishes the Mexican Steel Outlook Monthly Report as part of its Steel Outlook Service for Mexico. For more information, call +52 (81) 8363-8360 or visit www.steeloutlook.com.

Mexican flat-rolled steel prices decreased more than 60 percent from August 2008 to June 2009 due to the global financial crisis, which slowed Mexico’s economic sector, including the steel industry. Such slowing represented a historical downturn in steel demand and prices. Since June, however, mills have been successful in raising prices in the Mexican steel market, supported by a limited supply of steel in the distribution channel, an increase in steel prices around the world, the rebound of oil prices, a continuing recovery in Mexican manufacturing and a change of tendency in the short-term cycle.

The increase in steel prices around the world—particularly the announced price increases by U.S. mills—has added upward pressure on Mexican steel prices. There is a strong relationship between U.S. and Mexican steel price dynamics, given the significant participation of the United States in Mexican flat-steel imports.

Imports play a major role in the Mexican flat-steel market, accounting for 20 percent of apparent consumption. In 2008, 56 percent of all flat-steel product imports registered in Mexico came from the United States. So, once the U.S. mills announced price hikes in their market, steel mills in Mexico did not hesitate to follow suit, successfully achieving higher prices for flat-steel products during June of this year.

Another factor that supports the recent recovery in Mexican steel is the short-term price cycle. According to a statistical analysis developed by HARBOR intelligence, the short-term steel price cycle has an historical duration of eight to 12 months. In the case of the most recent downward cycle of steel prices, the decline registered in May was the ninth consecutive monthly decrease. According to the historical behavior of prices, the increase registered in June falls within the eight- to 12-month range, and thus supports a change of direction in the short-term cycle.

The dynamics of the industrial sector are very important to evaluate the direction of steel prices, as this sector contains key steel-intensive industries such as auto parts and appliances that represent a significant share of steel demand in Mexico. Industrial activity has been depressed by the weak economy as shown by the deteriorating production index, which averaged an annualized decline of 11 percent in the first five months of this year.

However, since early 2009, the perspective of those involved in Mexico’s manufacturing industries has continued to improve. The Purchasing Managers Index is a good indicator of where the manufacturing sector is heading, as it measures the attitude and outlook of company buyers. Although the PMI remains below the 50-point level that indicates economic expansion, its sustained trend of improvement has helped in the rebound of steel prices.

Recovery of the oil price is another factor contributing to the current increase in Mexican steel prices. There is a historical relationship between the annual change of petroleum price and the Mexican hot-rolled steel price. Although the swings in the oil price have historically been much more volatile than those in steel, the upward or downward direction of both has been the same. Thus the recent turnaround in the petroleum price is a variable worth watching.

One key determinant in this type of variable is a sustained recovery. A transitional uptick in the price of oil has not had a significant impact on steel prices. The recent change in the petroleum price appears to be sustainable, which is why it’s a valid indicator of a recovery in Mexican flat-steel prices.

Meanwhile, steel mills have kept their production discipline, operating at low capacity levels in line with the weak steel demand. Industry statistics show that total steel output by Mexican mills in the first five months of 2009 was 33 percent below the production achieved during the same period in 2008. Although steel production has registered some monthly increases, they have been in line with upturns in steel demand.

Similarly, low supply at the distribution level is another important factor behind the successful steel price increase implemented by the mills. Distributors and end-users have completed a long destocking cycle. With inventories at minimal levels, they now need to purchase material in order to meet their customers’ requirements. This has begun to shift the bargaining power toward the steel mills, following a lengthy buyers’ market in which service centers and other purchasers had a strong influence on transaction values.

There is a downside risk in the current environment, however. Steel buyers are likely to keep inventories lean. Once distributors and end-users have done some restocking, they may back off and make it difficult for the mills to sustain their recent price hikes, especially given the fragile state of steel demand in the Mexican market.

Mexico’s steel demand fundamentals remain depressed, as key industries have not been able to fully recover from the damage done by the global financial crisis. Automotive is one of the largest steel-consuming industries, but it has faced a double whammy due to the economic downturns in both Mexico and the United States. More than 70 percent of Mexican automotive exports typically go to the U.S. Total Mexican auto production in the first half of 2009 was 43 percent below the level reached during the same period in 2008.

There are some positive signs in the auto industry despite the evident weakness. Vehicle production increased 25 percent from January to June of this year. The Mexican government recently announced a vehicle renewal program. Similar to the “cash for clunkers” program in the United States, owners of cars that are at least 10 years old may be eligible for an $1,100 incentive to scrap their old vehicle and purchase a new one. This program has an initial budget of $36 million dollars, enough to subsidize the purchase of about 33,000 vehicles. Unfortunately, even if the program is successful, the new sales it generates will represent only 3 percent of total vehicle sales achieved in 2008.

Despite the negative perspective in steel demand, some steel-consuming industries could experience some recovery in the near future. One of these is the construction sector, to which an important stimulus has been directed this year. Even though the program has faced delays, once the investments start to reach the construction subsectors, steel demand should get a boost.

HARBOR intelligence expects that Mexican flat-rolled steel prices will continue to register increases during the coming months as distributors and end-users restock their inventories, international steel prices keep their upward direction and the economic situation improves during the last part of 2009. There is still downward risk for steel prices, especially towards the end of this year, however, as demand fundamentals remain in a fragile state.



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