Is Futures Trading the Key to Calming the Chaos?

By Tim Triplett, Editor-in-Chief

World Steel Dynamics continues to make its case for a liquid steel futures market.

The global steel market is chaotic, facing a never-ending stream of unpredictable events. To survive, steel companies must find ways to harness the chaos—such as steel futures trading, said Peter Marcus and Karlis Kirsis, managing partners for World Steel Dynamics, Englewood Cliffs, N.J., in their opening remarks at the Steel Success Strategies conference in New York June 21. The conference is co-sponsored by WSD and American Metal Market.

Since 2008, steel companies have seen their pricing power decline as the market has become more competitive. The mills’ traditional solution for overcoming a pricing crisis has been to increase consolidation through mergers and acquisitions. However, this approach may not work to the same extent in the future, Marcus said, as competitive actions by low-cost producers tend to cancel each other out. The “magic elixir” that will slow the erosion of the mills’ pricing power is steel futures trading, he asserted.

Sizable steel futures trading activity already exists in China, and the foundation is in place for liquid steel futures curves in North America and other parts of the world, Kirsis said. Many players need to hedge the steel price risk. The indexing of steel prices on a monthly or quarterly basis is becoming more widespread. Billet trading on the London Metal Exchange and over-the-counter iron ore swaps are growing.

Many mill executives remain reticent about steel futures trading, fearing the loss of control and wild speculation that could lead to unrealistic prices on the futures exchanges. Yet steel mills stand to benefit the most from a liquid steel futures market, Marcus said, for several reasons: They produce a commodity product. There are too many players in the market for them to control prices. New technologies are lowering the barriers to entry. Because of their high fixed costs, they pay a big penalty when steel buyers en masse decide to reduce inventories. And that is always a possibility, as the marketplace is prone to frequent unpredictable price swings.

Steel futures trading will give steel suppliers the ability to develop creative solutions for customers and help them control their price risk. “Many steel buyers want to lock in their profit margins and offer to sell their own product containing steel at a steady price to their customer base. The steel mills that help their customers achieve this requirement will enjoy a better profit margin on their transactions,” Kirsis added.        

Using a military analogy, Marcus equated steel mills with WWII battleships, which were superseded by aircraft carriers and submarines, and more recently high-speed strategic bombers that have been replaced by unmanned drones. “The game of war is changing. Which war are you engaged in: yesterday’s, today’s or tomorrow’s?” he asked.

Steel Success Strategies Mill Panel:
‘We’re Seeing Some Genuine Momentum’

While expressing their concerns about the slow economic recovery, volatile raw material and steel prices and their disdain for government regulations and policies, mill executives at last month’s Steel Success Strategies conference in New York offered a generally positive outlook for the second half of the year and beyond.

“Despite the unprecedented volatility, progress is indeed being made, both for our customers and our industry, as we gradually climb out of the Great Recession,” said Lou Schorsch, president and CEO of Flat Carbon Americas for ArcelorMittal.

As the world’s largest steelmaker, ArcelorMittal has operations around the globe. Those in the Americas are actually a bright spot for the company. “We are now seeing some genuine momentum in the United States after two years of underperformance,” he said.

Schorsch sees the shift in steel production to the developing world, notably China, as a positive development. “Even as we express concerns about the phenomenal growth of the steel sector in China and the role of political forces in driving it, there is no doubt that this reflects a tremendous accomplishment for China and its people. While the link between steel growth and economic development is clearest in China, we increasingly see this pattern in other developing regions, such as South America. Moreover, the growth of the steel industry in such regions represents an infusion of technical and entrepreneurial talent into our industry. The future of our product and our sector is much brighter for it,” he said.

Key sectors including automotive, energy and capital equipment continue to recover well, while the biggest concern in the NAFTA markets remains construction. Schorsch is particularly disappointed with the government’s response to the deteriorating condition of the nation’s roads, bridges, rail system and ports. “Given the high unemployment and the job intensity of major infrastructure projects and the very poor state of infrastructure in the United States, one would think governmental investment in infrastructure would be close to a no-brainer,” he said. “ArcelorMittal, with other companies, is urging the administration and Congress to work together as soon as possible to enact a long-term infrastructure bill with adequate funding to make a dent in both our infrastructure challenge and the still fragile recovery.”

What factors will shape the full recovery in the steel sector? Nothing is more important than the full recovery of the customer base, he said. Beyond that, he listed several other important themes: First, the industry needs more support from government policies in the U.S. and other countries. “All of us should take responsibility for educating politicians regarding the importance of the manufacturing sector and the essential role of steel. We need a positive policy environment,” Schorsch said.

Second, just as ArcelorMittal benefits from global economies of scale and scope, the steel industry could benefit from more consolidation of the supply chain. “One of the consequences of the crisis, however, has been increased fragmentation in the steel sector. Recent developments such as the announced merger of Sumitomo and Nippon Steel indicate that the [consolidation] theme may be re-emerging,” he said.

Third, vertical integration is an attractive strategy for those steel companies with the capital and capabilities to pursue it. Steel mills that mine their own ore can hedge the volatility of both inputs and outputs. “However, mining is a very different business from steel,” he warned. “Moreover, the benefits of vertical integration are diluted if one business is run as a slave to the other.

Fourth, the industry must continue to attract and nurture new brain power. “In today’s steel industry, talent management, recruitment and people development are the ultimate determinants of whether we can achieve our aspirations.”

And finally, his fifth theme was the importance of a safe and healthy work environment for employees. “At ArcelorMittal, we summarize our business model as ‘safe sustainable steel.’ These three words capture exactly what we stand for and work for each day.”

Mill executives on the panel were critical of the Obama administration’s approach to the environment and manufacturing policy. James Wainscott, chairman, president and chief executive officer of AK Steel, West Chester, Ohio, noted that AK recently had to shutter the coke battery at its Ashland Works because it would have cost $50 million to upgrade it to meet new environmental standards.

“The issue is the very fine balancing act that has to take place between regulating environmental matters and the economy. What is our priority? Is it jobs? The actions [of the administration] would belie the words. Let’s not lose the type of jobs that were lost at the Ashland plant in favor of benefiting the environment. We need a level playing field across the globe. We live on the same earth. We are mindful of our responsibilities. Let’s not tip the scales here toward the environment at the expense of the economy and jobs,” Wainscott said.

“The economy in the U.S. is struggling today. Until we change our economic policies, we will be struggling for some time,” added Keith Busse, chairman and chief executive officer of Steel Dynamics Inc., Fort Wayne, Ind.

Busse also was critical of the administration for its lack of a clear energy policy. “The nation does not really even have an energy policy and it needs one badly. We run off to other environments and ask them to drill on our behalf while we could be drilling in our own backyard. With the appropriate oversight and the use of the right tools and equipment, incidents like the one in the Gulf won’t happen in the future. The administration has largely chased green energy policies, many of which don’t work. It costs us more to produce ethanol than we can sell it for. Wind energy costs close to 10 cents a kilowatt hour when all of us are buying it for half that. Without government subsidies, these make no sense, and we have subsidized far too many things in this country already,” he said.

Like other panelists, Busse is most troubled by the lethargy in the construction sector. “I don’t think we can realize our potential without a vibrant construction economy, and today it is running about half speed. It represented 20 to 30 percent of the entire GDP in this country for many years. When it is sailing along at half speed, the economy will be short of the mark by 10 or 15 percent. Nevertheless, the time will come when this economy surges forward.”

SDI plans to continue investing in new expansion projects, including a new mill in the southern U.S. and possibly plants in foreign markets, Busse said. “At SDI, we are looking at a new flat-roll mill. We think that is where our greatest potential lies. A lot of people might wonder what we are thinking [given current overcapacity]. To me, you invest for the future at the bottom of the cycle. The mill we are looking at is going to be a beauty in a lot of ways and will service markets that SDI cannot get to today.”

Busse also reported that SDI’s Mesabi Nugget project is on track after some technical difficulties. “Even though the project has suffered some setbacks, they have all been ancillary and not process related. The process works flawlessly and consistently delivers iron with a purity of 97 percent. We think most of the trials and tribulations of pioneering a new technology are behind us.”

Wainscott said AK Steel has managed to adapt to the new market realities, negotiating new agreements with suppliers, customers and employees. “We established a lower and more variable cost structure without closing a single steel plant, shipping jobs overseas or receiving any government assistance,” he said. 

He reported that the new electric arc furnace at the company’s Butler Works is nearing completion of its startup phase. The new furnace replaces three smaller 1960s vintage furnaces and increases the plant’s steelmaking capacity by 400,000 tons.

Improved automotive demand has increased AK’s sales of both carbon and stainless steel. “Although the auto market still has a long way to go to get back to the 16 or 17 million unit level we saw before the downturn, the automotive sales trend and outlook are both positive,” Wainscott said. Sales volumes and pricing are improving in AK’s electrical steel segment, as well. “We remain optimistic about the future and believe we are on the right track.”

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Sunday, February 18, 2018