Steel Collapse

China's steel industry is moving towards a trough. Last year, Steel Trade Lawsuits Explode; Banks' Unceasing Nightmare; Defendants Flee set the tone for a year with rising NPLs in the steel sector. Recently, charges of corruption have rocked the industry:

China Baosteel executive under investigation for corruption

A top executive of China's Baosteel Group, the parent of Baoshan Iron & Steel (600019.SS), is being investigated for "serious disciplinary violations", China's corruption watchdog said on Tuesday, as Beijing intensifies its war on deep-seated graft.

China's steel industry comes under the anti-corruption spotlight

A Deputy General Manager [Sun Wendong] at Wuhan Iron and Steel Co. has been detained on suspicion of accepting bribes, according to an announcement made by the listed firm to the Shanghai stock exchange yesterday evening.

...The steel industry has been one of the areas targeted with close to ten steel executives investigated since last year, according to a report in today's Beijing News.

Anti-corruption teams are stationed in the steel industry for two months, scheduled to finish at the end of April. Insiders were surprised at the two arrests because the men were widely considered low key, capable managers, with the WISCO executive pegged as a potential future CEO.

Corruption charges are the least of the industry's worries as rising debt levels indicate business conditions are worsening. An undercurrent of default is raging as short term debt hit recently hit ￥980 billion, or 74% of the industry's ￥1.33 trillion in bank loans.

Previous government efforts to rescue the industry have failed. Reorganizations were supposed to help, but local governments each have an incentive to fight for their local mills and the central government fears economic instability. One proposed restructuring that would merge WISCO and Liuzhou Steel is 10 years in the making. An "Action Plan" was put together in 2012 that would allow the market to play a decisive role in allocating resources, strengthen the position of companies in the industry and create a competitive environment.

The 2012 Action Plan wasn't only for steel. The government was to halt approval of iron, aluminum, cement, plate glass and other industrial projects. For steel, the government wanted to leave about 300 companies. This number confused the public, since the market was supposed to be playing a role. Why did the government delineate the number of desired firms? The number comes from a government study which found 300 firms is appropriate during "normal conditions." The 300 firms accounted for about 90% of China's steel production.

The reason for the government's failure to tame the steel industry became crystal clear in 2014, when credit guarantees became a major issue. As with other industries, mutual credit guarantees form a web of interlocking liability. If one steel mill is shuttered, it sets off a chain reaction that shutters several more. In March 2014, Haixin Steel ceased operations with ￥20 billion in debt owed to 33 different lenders. Disaster fell on other steel and energy companies that had guaranteed Haixin's debt. This daisy chain of mutual guarantees tied the government's hands, restricting their actions for fear of setting off more bankruptcies.

If ￥20 billion can wreak havoc on the industry, imagine the problem facing the government today. In addition to the ￥1.3 trillion in bank loans, much of it short term, the industry's top 80 firms also owe ￥1.7 trillion in short-term high interest loans. Firms are borrowing to repay old debt, for instance a Xinjian unit of Baosteel saw its short-term debt climb 13.3% last year, even as long-term debt fell 29%. This increases the risk of default should credit conditions tighten.

Amid this looming chaos, a new three-year action plan is being developed for steel, plus a new 5-year plan and long-term industrial policies. If the government failed when debt levels were much lower and the economy was growing much faster, what are the odds of success today?

EEO: 钢的“底”

Baosteel plans to buyback 20 percent of outstanding shares

Share buyback plan to cost Baosteel 5b yuan

Baoshan Iron and Steel Co Ltd, the country's biggest steelmaker, plans to spend 5 billion yuan ($786.88 million) to buy back its own shares for no more than 5 yuan a share.

The decision comes after the company's stock value declined to a new low and will make the Shanghai-based steelmaker, commonly known as Baosteel, the country's first blue-chip company to buy back its own shares this year. Analysts have said they expect other companies in the same league to soon conduct similar transactions.

The steel industry has trouble ahead due to overcapacity, but Baosteel's shares are trading around their lows of the past 12 years.

China pukes steel, slams Asian market; what else will China puke?

The Baoshan Steel Index tends to move slowly, with changes of 1 or 2 points on most days, as it is an index of prices from contracts, not a financial index. Still, like the Baltic Index, it's prone to periods of volatility and we are appear to be entering another such phase. Prices are currently at their lowest since December 2009.

Here's the result of collapsing prices in China, themselves result of weak demand: China's rising steel exports slam Asian producers

Europe used to soak up most of China's steel exports, but the region's protracted debt woes have forced producers like Baoshan Iron & Steel to turn their shipments to destinations closer to home. The wave of cheap Chinese exports has fuelled price undercutting among Asia's top mills, which are expected to report profit slumps for the three months to June.

POSCO, backed by billionaire investor Warren Buffett, is expected to see its operating profit fall by a third from a year ago, analysts say.

"Before, China was exporting 2 million tonnes per month and now it is suddenly 5 million tonnes. Given that domestic demand in their respective countries is already not particularly strong, they (local steel producers) are clearly afraid," said Helen Lau, a commodities analyst at UOB-Kay Hian in Hong Kong.

That's one heck of a swing to hit the market. Chinese speculators have accumulated copper, nickel, coal and other commodities, what's going to happen in those markets if China starts exporting those hoards?

China's Baosteel cuts main steel product prices for August

Baosteel's pricing decisions are generally regarded as a bellwether for the industry. While demand generally weakens in China's hot summer months as construction projects slow, sluggish economic growth and a fragile global economy are putting particular pressure on the company this year.

China's steel industry is expected to see low demand in July and August until a seasonal pickup in September, and expectations of more efforts by Beijing to boost the economy are unlikely to provide an immediate boost to steel prices, analysts say.

That drop off at the start of the chart above came as the real estate market felt its first chills. If the expected pickup doesn't arrive, prices will crumble.

China's spiraling financial bubble

Over at Steve Keen's Debtwatch are two articles on China's growing debt financing schemes.

The Looting of China by the Kleptokapitalist Bourgeoisie Roaders

Zoomlion has an interesting business model, it is similar in many of ways to Caterpillar, except whereas Caterpillar report falling sales, Zoomlion reports astounding sales growth with a fivefold increase in revenue since 2007. Zoomlion customers sometimes buy ten concrete mixers when they planned to initially by one or two. They have a perverse incentive to buy more than they need because these concrete trucks are purchased via finance packages supplied by Zoomlion.

Then the machines can be garaged and used as collateral to borrow further funds from other lenders. Zoomlion continues to grow while cement sales have plunged. In May, cement output increased 4.3 per cent YoY, down from 19.2 per cent recorded last year. Zoomlion’s new debt of $22.5B buys roughly 900,000 trucks which could produce enough concrete (at six loads a day) to build over thirty Great Pyramids of Giza a day .

This is the type of financing that did in firms such as Lucent at the end of the Internet Bubble.

China’s Concrete Bubble

Chinese construction keeps trending down with Sany the worlds sixth largest heavy machinery maker reporting a rise in profit of 5.4% in the same quarter as a blow out in receivables of USD $1.39 billion and cash reserves falling by USD $535 million . Sany is clearly booking profits on 100% financed machinery while providing zero transparency on credit risk and delinquency . If the GFC has taught the world anything. then 100% ‘no money down” vendor finance should ring alarm bells. This all started about about 3 months ago when Zoomlion started to aggressively financing heavy machinery for anyone that wanted to sign up.

Concrete is a very good indicator of GDP growth and the slide in demand is a major red flag. The debt financing is accelerant should the economy slow sharply, which is a growing possibility.

Here's a look at the Baoshan Steel Index. As you can see, since peaking in 2011 there have been three price decline movements. The first was the cliff drop last fall (when the real estate slow down hit, Europe and U.S. debt crises were front page news), then a slow decline into February before a bounce into early spring. Since April 20, the decline has resumed at a steeper pace than the winter.

Chinese steel industry profits continue to shrink

The Economic Information Daily citing statistics from an industry association said the combined profits of China major steel producers dropped more than 94%YoY to CNY 2.53 billion in the first five months this year amid sluggish demand as well as severe overcapacity in the sector.

According to the report in May, the combined profits of the 77 steel mills surveyed by the China Iron and Steel Association slid 21.7%MoM to CNY 1.4 billion, even though the second quarter is supposed to be a peak season for the industry. Also in May over 30% of companies in the sector suffered losses.

Investors have priced a slowdown into shares of Sany this year (600031). Shares of Zoomlion (1157) have held up better, but they are both down sharply from their highs of years past.

Chinese steel price decline accelerating

Manufacturing is a lead indicator for economic growth and all signs point to a major slowdown in the steel sector.

China's steel riddle

The curiosity about the Chinese game plan is understandable for its dominant presence in the world steel industry. According to World Steel Association, global production of crude steel in 2011 rose 6.8 per cent to 1.527 bt. This is largely on account of China, which once again sprung a surprise lifting output by 8.9 per cent to 695.5 mt, giving itself a share of 45.5 per cent of world production. How much steel does the world expect from China this year? We understand the boom in real estate development and construction sustained Chinese daily steel output at over 1.9 mt for much of last year. This, however, fell to nearly 1.7 mt in 2011 fourth quarter and as we go forward we may see further production contraction in China, in case margins for the industry there do not improve.

China Steel Prices May Fall Amid High Inventories, Mirae Says

Baoshan Iron & Steel Co., China’s biggest publicly traded steelmaker, raised its products prices by at least 150 yuan ($24) a ton for March delivery, the second increase in three months, the company said Feb. 10. The market usually expects steel demand to rise as construction resumes after the weeklong Chinese New Year holidays, which ended on Jan. 29 this year.

“Construction demand for machine power remains weak, with a disappointing improvement post the Chinese New Year, due to insufficient cash injection from local governments into infrastructure projects,” Mirae Assets said in the note. “The current rise in ex-factory prices is mainly being driven by steel mills rather than end-user demand. We believe steel mills will have to compensate traders later when prices fall.”

Chinese steel market still in decline

In a post from early December, Chinese steel industry profit margins collapse, I covered the collapsing margins at steelmakers. Now earnings are coming through.
China steel maker Baoshan's profits fall

China's Baoshan Iron and Steel Co said its annual net profit for 2011 fell by around 43 percent, as the nation's industry is hit by a slowdown in the domestic and global economy. Unaudited net profits fell to 7.3 billion yuan ($1.2 billion) in 2011 from 12.89 billion yuan in 2010, Baoshan -- the listed unit of China's second largest steel maker Baosteel Group -- said in a statement issued at the weekend.

The firm gave no reason for the fall in profit but it has previously said weaker demand and surging raw material costs eroded earnings in the first half of last year.

For resource investors, consider this delta: BHP Sees Another Record in Iron-Ore Output

BHP Billiton Ltd. said Wednesday it was set for another record year of iron-ore production after bumper output in the most recent quarter as it continues to expand operations in Western Australia's arid Pilbara region.

BHP's optimism over demand for its primary earnings driver helps damp predictions of a slowdown in industrial development in China, the world's biggest consumer of iron ore and other minerals. Anglo-Australian rival Rio Tinto PLC a day earlier posted record iron-ore output in the recent quarter as it too invests billions of dollars in mines and ports.

Finally, in early December I posted this chart of steel prices in China:

Here's an updated chart. Prices haven't been collapsing, but they've been ticking down at a regular price value, meaning the percentage losses are picking up.

Baosteel (600019.SS) stock has already priced in the decline and the stock has even bounced a little in 2012.

Chinese steel industry profit margins collapse

Hugh Hendry coined the "Confucian" aphorism, "Wise man not invest in overcapacity."

Chinese steel industry profit margins hits a historic low, 0.47% profit margin far below interest rates 钢企利润率创历史新低 0.47%利润率远低于利率水平 October profits fell 82% from September. Inventories are up 20-30% over the start of the year. Steel industry debt ratio is 67% and most of the debt is in the form of bank loans. Banks currently pay 3.50% interest on one-year deposits. Since steel is considered a fundamental industry for infrastructure and national development, bank loans have not been restricted and fixed asset investment in mining grew 17.4% over last year, while smelting and rolling fixed asset investment grew 18.9%.

Below is the Baoshan Compostite Steel Price Index, based on contracted prices. The first chart shows the drop in 2008, the second is the recent price decline.

Here's a short English article covering the news: Chinese steelmakers see profits plunge

Baosteel Deflation—宝钢通货紧缩

In September, Baosteel cut October prices. (宝钢下调10月钢价)
In October, Baosteel is cutting November prices:

Baosteel Group, the parent of Baoshan Iron & Steel Co., cut its prices of steel products for November delivery by 250 to 500 yuan per ton from October, a company official told Caijing on Oct. 12.

The country's biggest steelmaker cut medium steel plate prices by 400 yuan per ton, and cut the price of cold and hot rolled steel by 400 to 500 yuan a ton, the official said.

The special 100 to 300 yuan discounts on hot and cold steel plate for October orders was extended.

宝钢11月碳钢出厂价格继续下调

10月10日，宝钢出台钢产品11月新价格政策。在10月价格基础上，中厚板价格普遍下调400元/吨；热轧品种中普碳钢价格下调400元/吨，机械用钢等品种钢价格下调500元/吨，增加优惠100元/吨；酸洗价格下调250元/吨，增加优惠300元/吨；冷轧及热镀锌的价格普遍下调400元/吨，同时分别增加优惠300元/吨和200元/吨。其中，普碳钢和酸洗的价格是继10月下调之后继续深调。

通货紧缩.