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Research Speak 9-04-2010

Research Speak 9-04-2010

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Published by: A_Kinshuk on Jul 22, 2010
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09/26/2010

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research@eurekasecurities.com 
1
Introduction
The impact of the US credit crisis on the commodities market is widely known, in line with other commodities likecrude oil whose price dropped to $30s the steel prices corrected from the record high levels in 2007. However,with the easy monetary policy initiated by the US (in the form of quantitative easing) and followed by othercentral bankers from Europe to Japan trying to implement Keynesen economics involving easy fiscal andmonetary policy to stimulate economy. China responded with $585 billion of stimulus and India has been noexceptation in this regard. All these concerted effort started yielding result with demand started to pick up andeasy money and weak dollar sarted to have positive impact on the commodities and the equities market alike allover the world.The result of these measures are very much evident when we compare the prices of HRC, CRC, Long products etcthat are trading today vis-à-vis the lows in 2008-09. The HRC and CRC prices hit $250-300 during this period whichare currnetly trading at $750 and $850 respectively. Similar is in the case of plates which are trading at a price of $850 fob USA, east of the Mississippi. In case of long products, the current rebar prices are trading at $650 fobUSA, east of the Mississippi and the same is available at $550 ex work Mainland China.
Current Price Trends
Indicative price of steel currently ruling in India as far as Steel sheets are concerned are as follows,the price of 1 mm thick cold rolled sheet is at Rs 47,000 per ton, excluding VAT, which was earlier at Rs 44,000per ton last week. Similarly, the price of 2 mm thick hot rolled sheet was at Rs 42,000 per ton, excluding VAT,which was earlier at Rs 40,000 per ton last week.Similarly the long product prices (in Rs.) are as follows:
 
Product Description Jan'10 Feb'10 1stMarch18thMarch29thMarchBillet 125x125mm IS283028700 25400 26750 29250 32250Billet 65x65mm IS283028850 25550 26900 29400 32400Bloom 320x250mmWT28500 25200 26550 29050 32050Channel 150x7533300 32300 33550 35550 38550
Research Speak - Iron & Steel and Infra Special
Week Ended – 9
th
April, 2010
 
 
research@eurekasecurities.com 
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IS2062 Gr.ARebar 16mm IS 1786Fe 50034000 32500 34000 35500 38500Rebar 8mm IS 1786 Fe50035000 33000 34500 36000 39000Round 20.64 mm55Si740500 39000 39750 41750 44750Round 40mm IS 2062Gr.A31600 30600 31850 33850 36850Wire rod 7 mm PC11534000 33000 33750 35750 38750Wire rod 8 mm IS788732950 31950 32700 34700 37700
Other things remaining contant the prices are likely to remain higher in the current and the next fiscal.
Over Capacity Still Exist…………Then Why prices are Going Up?
The current surge of prices of steel in particular is a function of both the increase in demand and also the pricesof the rawmaterial that goes in the manufacturing of finished steel. While formal causality study usingecnometric modeling could be performed, intuitive expalanation of this phenomenon can yield a reasonablelysatisfactory result.In the western world especially in USA and Western Europe the capacity utilisation rate in the post crash eradropped down to as low as 35-40%, as a consequence companies like Arcelor Mittal, Corus, Nucor, USA Steel,etc., had cut down their production significantly to cope up with the falling demand and prices. Even today whenthe demand in these countries have started to revive the average capacity utilisation has not exceeded 60-65%.However, the demand and hence production seem to be in the continuous path of recovery. Thus, if we try toexplain the price rises from the supply side contraint it would be very difficult to explain as there does not existany constraint per se. However, the main contributor to this price rise is attributable to the unprecedented rise inthe raw material prices, viz., Iron Ore, Coking Coal, thermal coal etc.The following is the indicative cost structure of a typical integrated Steel Manufacturing company through BlastFurnace Route:
Item $/unit Factor Unit Unit cost Fixed Variable TotalIron ore 1.435 t 62 88.97 88.97Iron ore transport1.435 t 20 28.7 28.7Coking coal 0.519 t 128.5 66.69 66.69Coking coal transport 0.519 t 19.5 10.12 10.12Steel scrap 0.162 t 325 52.65 52.65Scrap delivery 0.162 t 5 0.81 0.81
 
 
research@eurekasecurities.com 
3
 
Oxygen 80 m 3 0.08 6.40 6.40Ferroalloys 0.014 t 1400 19.60 19.60Fluxes 0.521 t 30 15.63 15.63Refractories 0.011 t 600 6.60 6.60Other costs 1 13 3.25 9.75 13.00By-product credits -20.00 -20.00Thermal energy, net -2.68 GJ 12.50 -33.50 -33.50Electricity 0.122 MWh 150 2.75 15.56 18.3Labour 0.64 Man hr 35 5.6 16.8 22.4Depreciation 40.00 40.00Interest 44.00 44.00Total 95.6 284.78 380.37
Raw Mateial Dynamics
As it is evident form the above table that raw material cost consist of about 65% of the total cost of production of hot metal.If we factor in the current iron ore prices of $130/ton the cost of production goes up by $97 to $477.96. As per ourunderstanding we expect the prices of raw material to remain strong for the forseeable future. In the iron ore segment, theworld is dominated by ony few players viz., BHP Billiton, Rio Tinto and Vale of Brazil. Together they control northward of 75%of the world iron ore market. After the collaps of last year’s negotiation with the China Iron & Steel Association, the iron orecompanies returned back with vengence, where they have offerd to sell their products to steel companies at a price which is100% higher compared to the last year’s price. In the recently concluded deal with Eurpoean Steel makers the pricecommanded by the iron ore producers have been accepted by the EUROFER, much to their dismay and reluctance. Apartfrom the high price, the iron ore producers have also stipulated that vhence forth the long letm contracts are going to be seton quarterly basis contrary to the previous 1 year time frame.Same is the case with the coking coal. The prices quoted by BHP Billiton, one of the larget producer of coking coal in theworld, is in the vicinity of $200. Some are quoting it at $250-300 for delevery in the 2
nd
quarter of FY2011.As it can be seen from the above discussion the prices of raw material has risen at acclerated pace in the last one yearcompared to the prices of finisned steel. Thus, going forward, citeris paribus, the steel prices in the international market aregoing to catch up to this hike in the raw material prices as steel majors all over the world will continue to pass on the hike incost of production to its ultimate consumers.
Demand Side Dynamics
Now, analysing the situation from the demand side as well, things are looking very price positive for the steel industry. As wecan see that despite slower growth in the export front, the Goldman Sachs China Activity index, gross domestic productindicator for China, at the moment is growing at the rate of 14% annually. The Chinese government has taken up themandate to make its economy a self sustaining one and as such is spending heavely to improve infrastructure to enhance itsown standard of living and enhancing purchasing power of its citizens and from the look of it it seems they are doing preetygood job as well.

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