Regional Growth Trends Diverge Further
Regional growth trends diverged further during the month of October as data from the U.S. and China were positive, while activity in the Euro-zone remained subdued. The U.S. economy expanded faster than expected during the third quarter, helped by higher government spending. Lower fuel prices have lifted U.S. consumer sentiment recently, and should help exporters around the world. Chinese economic growth for the third quarter was also marginally above expectations, allaying fears of a sharp slowdown. In contrast, industrial output trends and inflation data from the Euro-zone continued to indicate that the region’s economy is nearly stagnant. Nevertheless, the stronger U.S. demand and cheaper euro could boost the Euro-zone in the coming quarters. German manufacturing output and exports rebounded in September and the trend is likely to continue. However, the European Commission has lowered its growth forecasts for the current year as well as 2015.
Equity markets were volatile during the month, declining appreciably during the first half before recovering later. Global manufacturing output expanded further, though weakness in the Euro-zone offset gains in the U.S. and the U.K. Factory output growth was slower in China, but exports from most major Asian countries remained buoyant. The U.S. Federal Reserve announced the end of its bond purchases as expected, and indicated that interest rate hikes would depend on further improvement in labor markets and a rise in inflation trends. The Japanese central bank surprised the markets with a substantial and unexpected increase in its bond purchases. Economic growth and inflation in Japan remain well below earlier estimates, but the central bank and the government remain confident that the current policies would help revive the economy.
Global Industry Spotlight for the Month: Metals
The uneven economic recovery in developed countries over the last five years and the recent growth slowdown in China and other emerging countries presented a tough operating environment for the global metals industry. Prices of most major industrial metals have declined appreciably, as new production facilities enhanced supply when demand growth moderated. While the near term environment remains challenging, the outlook could turn more positive in the medium-term if global economic growth revives.
For the global metals industry, the few years before the 2008 global financial crisis were some of the best in its history. As demand from China and other large emerging markets outpaced supply, producers enjoyed lucrative margins and record high equity market valuations. Both miners and primary metal producers had seen significant industry consolidation during the years before the demand run up, and enhanced their pricing power and earnings growth. The strong cash flows and ease of access to capital made most producers exuberant about their future prospects. Several mega projects were launched across the major producing countries and regions before the cycle peaked.
From the peak, it has been a steep slide so far for the industry. Prices of steel, copper, and other metals have come down significantly from their highs, while equity valuations are only a fraction of the pre-crisis levels for many producers. The most aggressive companies that borrowed heavily in their quest to expand capacity and achieve scale, either through greenfield projects or through acquisitions, are now struggling with stretched balance sheets. Several producers have written down the value of their assets while some have tried to divest parts of their production facilities, but have found difficulty in finding buyers.
Despite the uneven global growth trends, the output of metals has only increased in recent years. For instance, global crude steel production increased from about 1.35 billion tons in 2007 to 1.65 billion tons last year, according to the World Steel Association. Similarly, according to the U.S. Geological Survey, global copper mines produced 17.9 million tons in 2013 compared to15.4 million tons in 2007. The steep fall in metal prices has been a direct result of this output expansion.
To make it worse, metal producers struggling with weak demand in their home markets are now looking at exports as a possible way out. The price of reinforced steel bars used in construction has plunged in China and is now cheaper than cabbage, according to a Financial Times report. Chinese steel producers have increased their exports significantly this year, surging to a record 8.5 million tons in September. Producers from other countries such as Korea have also lowered their export prices in response, inviting dumping allegations from domestic producers in the U.S., India, and select other countries. This aggressive pricing behavior by producers is likely to persist until global demand revives strongly, or industry capacity is rationalized.
Despite these weak short-term trends, the industry’s medium-term outlook looks brighter as gains in global economic growth could lift demand. Helped by stronger U.S. consumer demand and lower fuel prices, economic growth in Asia could stabilize. The healthier fiscal balances are likely to allow governments in China, India, and other countries to step up infrastructure projects that consume large quantities of metal. If the Euro-zone also sees a revival, global demand for metals should improve over the next two years.
In addition, the major global metal producers have used the downturn to cut costs and become more competitive. Even the major metal producers in Europe have seen positive earnings this year, reversing several quarters of losses. Though some companies have high levels of debt, low interest rates and abundant capital availability should allow them to refinance their current liabilities. Producers have delayed or abandoned several new projects recently, which should curtail capacity additions in the coming years.
This article is for informational purposes only. This article is not intended to provide tax, legal, insurance or other investment advice. Unless otherwise specified, you are solely responsible for determining whether any investment, security or other product or service is appropriate for you based on your personal investment objectives and financial situation. You should consult an attorney or tax professional regarding your specific legal or tax situation. The information contained in this article does not, in any way, constitute investment advice and should not be considered a recommendation to buy or sell any security discussed herein. It should not be assumed that any investment will be profitable or will equal the performance of any security mentioned herein. Thomas White International, Ltd, may, from time to time, have a position or interest in, or may buy, sell or otherwise transact in, or with respect to, a particular security, issuer or market on our own behalf or on behalf of a client account.
FORWARD LOOKING STATEMENTS
Certain statements made in this article may be forward looking. Actual future results or occurrences may differ significantly from those anticipated in any forward looking statements due to numerous factors. Thomas White International, Ltd. undertakes no responsibility to update publicly or revise any forward looking statements.
