Viewpoint: Trade strife increasing hurdle for EU HRC

There has been an overwhelming sell-side consensus for the last few months that European hot-rolled coil (HRC) pricing will rise in the fourth quarter, as mills use production cuts to try and restore their ravaged margins.

The world's largest steelmaker, ArcelorMittal, has led the way with output reductions, pledging to take around 10pc of its annualised volume off line this year. Its peers have not been so vocal for the most part, but are quietly taking lines down for planned outages. Availability on certain widths — for example two metres plus — could tighten from September because of the stoppages, according to some firms.

The well-publicised issues of ArcelorMittal Italia are also in focus, with traders amassing long positions in the expectation production will be further disrupted and leave buyers needing prompt material. Strong raw material costs that have not yet filtered into steel selling prices are another bullish sign, as is the ongoing review of the definitive safeguard — this is expected to tighten imported HRC availability by taking the global annual quota to country-by-country and quarterly.

But there are increasingly obvious hurdles to contend with. Raw material costs are subsiding, with iron ore now below $100/dry metric tonne, and steel prices might follow inputs lower given the slow demand environment.

Sentiment in Europe is bleak, especially in the north. Car production in Germany dropped by around 12pc in the first half of the year, and this fall was magnified by the inventory already amassed in the system. Automotive sub-suppliers and service centre suppliers suggest they still have too much finished product for real demand, despite the destocking that has taken place. Many sub-suppliers are staring down the barrel financially, with some entering administration and others restructuring.

The spectre of US Section 232 tariffs on cars and car parts has always been in the background. The automotive sector takes over 60pc of European hot-dip galvanised (HDG) deliveries, and HDG is produced from HRC, or cold-rolled coil, which also comes from HRC. Such a tariff would be a much larger issue for European steelmakers than the 232 ruling on steel itself.

Wider macroeconomic uncertainty has not helped the steel market, and the intensifying trade war between the US and China could pull down Asian pricing now the yuan has "broken seven" — the low differential between fob China and European HRC prices has been one of the factors alluded to by EU mills as showing current margins are untenable.

The weaker yuan is widely expected to weigh on seaborne steel pricing in Asia, and potentially lift Chinese dollar-denominated exports — this could reduce Asean appetite for Turkey and CIS-origin steel, and leave more supply trying to compete for soft European demand.

Trade friction is also crimping overall goods demand, which is a big issue for export-oriented economies such as Germany. Reduced manufactured product exports could in turn mean lower steel requirements, while the structural issues afflicting the automotive sector are not showing signs of dissipating just yet.

Brexit and the increased likelihood of a no-deal outcome is another headache for the European steel using market. Seamless supply chains for the automotive industry and other sectors could be disrupted without a customs union. And Japanese carmakers face the prospect of it being cheaper to manufacture in Japan and send to the EU, rather than produce in the UK and pay tariffs, given the free trade deal between the two.