US interest rate hike, escalating trade tension rattle steel market

SHANGHAI, Mar 23 (SMM) - The US Federal Reserve announced on March 22 that it will raise the interest rate by 25 basis points to 1.5%-1.75%. This is the first hike in 2018, and also the first one after new Fed chair Jerome Powell took office in February 2018. The Fed expects two more hikes in the rest of 2018, steeper hikes in 2019-2020, and may accelerate its balance sheet reduction in April.

The US Fed’s March hike marked the sixth interest rate increase by the US central bank since 2015, meaning an “expensive money and cheap assets” to the global market.

Market rates in China are sensitive to the US Fed’s rate hike. The 10-year government bond yield stands at 3.85% in China, and 2.9% in the US. If the US Fed’s rate hike weakens this advantage, the Chinese central bank is likely to raise the rates for reverse repurchases and the medium-term lending facility (MLF). This occurred in June and December 2017. 

After the March hike, China’s central bank also raised the seven-day reverse repurchasing rate by 5 basis points to 2.55%. This means that domestic steel enterprises will face more difficulties in obtaining loans, which does not augur well for the steel market.

In addition, mortgage rates are poised to continue to rise given market rates and the rate of the US Fed’s interest rate hikes. The national average mortgage rate for first homes stand at 5.43%, 1.11 times higher than the basic interest rate. If the average rate of financial products by banks rises above 5%, banks will incur losses from issuing a mortgage rate of 4.9% or less. Rates for second homes will face more rising room.

Higher mortgage rates will significantly affect house sales, and this will also influence steel demand.

Less than 24 hours after the hike was announced, US President Donald Trump signed a presidential memorandum “targeting China’s economic aggression”, which could escalate into a full-scale trade war between the world’s two largest economies.

The US plans to impose a 25% import duty on $60 billion-worth cargoes from China, which will affect 1,300 products, including modern railways, new energy vehicles and high-tech products. “This is the first of many” trade actions, the President said.

The US will also restrict technology transfers and acquisitions by Beijing. Import tariffs of 25% and 10% on steel and aluminium products respectively, proposed in early March, are just the beginning of such efforts.

China responded by announcing plans for retaliatory tariffs on 128 US products that include pork, wine, fruit and steel. China will take measures against US goods in two stages if it fails to reach an agreement with the US, and urged Washington to resolve its issues with Beijing to avoid jeopardising bilateral ties.

The US Fed’s rate hike decision and a potential trade war overshadowed the impact from supply and demand. Steel futures and physical prices tumbled in response, weighing down market sentiment. Falling steel prices also triggered concerns of liquidity in steel market. Some smaller traders purchased cargoes before CNY with loans from enterprises that had adequate liquidity, and the date of loan repayment approaches. So far, no defaults were heard.

Steel prices are likely to decline by 100-200 yuan/mt in the short term amid current bearish sentiments, but market fundamentals will prevail.

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