Steel Resurgence Seen Fizzling as China's Property Market Slows

Updated on
  • Chance of return ‘to where we were a year ago,’ fund says
  • Downturn in China’s property cycle seen hurting steel demand

What's Driving the Gains in Iron Ore?

Steelmakers aren’t out of the woods yet. A year-long rebound risks fading as a slowdown in China’s property market deepens, exposing bullish sentiment as overblown, according to a U.S.-based hedge fund manager and former Citigroup Inc. analyst.

“China’s real estate sector is the biggest X-factor for the steel market globally this year,” Ivan Szpakowski, chief investment officer at Academia Capital LLC, said in a phone interview from North Carolina last week. “We’ve clearly turned the corner into a downward phase of the property cycle, and I do think there is a real risk for steel that we go back toward where we were a year ago.”

Steel and iron ore surged in 2016 after a poor start as China’s “old economy” roared back with the help of government stimulus and a credit boom. At the heart of the rebound was a pick-up in construction that helped steel demand expand about 2 percent last year, versus expectations of a 5 to 6 percent decline, according to Szpakowski. Construction accounts for the biggest part of steel demand in the top consumer, according to Bloomberg Intelligence.

China’s home prices have shown signs of slowing as local governments and banks follow Beijing’s orders to tighten the market and rein in asset bubbles. At the same time, stockpiles have expanded at an “unprecedented” pace since the start of this year, Szpakowski noted. Iron ore inventory at China’s ports rose to a record 127 million metric tons last week, according to Shanghai Steelhome Information Technology Co., while stockpiles of reinforcement bar used in construction surged to 8.2 million tons, the highest since April 2014.

“We’re much more leveraged now than we’ve been in two years, in terms of inventory throughout the whole supply chain, whether it’s traders or steel mills, or whether it’s iron ore or steel,” said Szpakowski, who previously worked in Shanghai, Hong Kong and Singapore as a commodities analyst for Citigroup and Credit Suisse Group SA. China’s steel market has gotten “too optimistic” on demand and the potential benefit of capacity cuts, including the clampdown on some scrap-based mills this year, he said.

That’s a warning to steel producers and miners that have enjoyed a market rebound after years of fighting losses and oversupply. China’s steel export prices jumped more than 90 percent last year, spurring gains in world markets even as shipments stayed historically high at more than 100 million tons. Iron ore has doubled in the past year and was at $91.71 a ton in Qingdao Tuesday, near the highest since August 2014. Futures in Dalian were little changed.

To be sure, there remain supportive drivers for steel. Chief among them is the government’s desire for stable growth ahead of a leadership reshuffle at the ruling Communist Party’s National Congress in the second half of 2017. That should mean “another good year” for infrastructure spending and no aggressive action, yet, on monetary tightening, Szpakowski said.

Choppier Period

Not everyone is bearish on real estate. Property-development investment, which tracks builders’ investment in construction and land development, rose 11.1 percent in December from a year earlier, up from a 5.7 percent gain in November, according to Bloomberg calculations based on National Bureau of Statistics data. New starts gained 12.5 percent.

Plus, despite developer valuations being near a historical trough, contracted sales at leading firms are expected to jump another 15 percent this year from a record 2016, thanks to their strategic positioning in metro areas and stable home prices even with tightening, according Citigroup analysts.

“We’re not necessarily going to close this year all the way to the bottom of where we should be,” Szpakowski said, declining to give specific price forecasts. “We could have an initial move down, then a flatter, choppier period, and then even further downside as demand cools further in the housing market, and then you get past the Party Congress.”

— With assistance by Martin Ritchie

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