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S&P Global Ratings: European steelmakers face souring business cycle

Amid tough market conditions, European steel producers should not expect a quick rebound in prices to rescue profits, according to a recent S&P Global Ratings overview of the sector.

"We see difficult current market dynamics and longer-term structural challenges for the European steel industry," Ratings said in an Oct. 11 report.

After three years of strong performance, Ratings said the business cycle had soured for European steel producers with prices for steel products along with margins and EBITDA retreating to 2016 levels. The rating agency also pointed to deep-seeded issues for European steelmakers.

"Even if the prevailing clouds disperse, the path to actual and metaphorical blue skies for European steel is strewn with not just environmental hurdles, but cost disadvantages, limited industry consolidation, and the mixed and impermanent benefits of EU tariffs to limit cheap imports," Ratings said.

Ratings noted it had downgraded smaller, lower rated steel companies and those with a European focus and revised its outlook to negative for ArcelorMittal, an integrated steel producer with a global footprint.

In a base case, Ratings said it expects 2019 demand to shrink by as much as 2%, calling it a "trough year" for the sector. In 2020, it expects lackluster growth in steel demand on the back of weak GDP expansion.

"According to our economists, growth in Europe will remain weak in 2020 with our current forecast at 1.1%, leading to a muted recovery with demand for steel increasing by up to 0.5%," Ratings said.

Taking a more global view, Ratings said steel appetite in China is holding up as growth slows, and that U.S. steel prices and margins have softened. Weaker demand also looks to be having knock-on effects in the iron ore sector.

After Vale SA lowered its 2019 pellet production guidance about 4% to 43 million tonnes, BMO Capital Markets analyst Edward Sterck pointed to European and Asian steel markets as a possible cause.

"This downgrade to guidance reflects the current weakness in core pellet buyers, most notably steelmakers in Europe and developed Asia," he said in a Sept. 26 note.

On the demand side, Ratings pointed to falling vehicle sales in Europe during the first half of 2019, with an expectation for sales to hold steady in 2019 and 2020. Vehicle makers account for about 21% of European steel demand, Ratings said, with much of the balance coming from the construction, mechanical engineering and energy sectors.

Among key risks for the steel sector, Ratings underscored a slowdown in the European economy, the impact of Brexit, shifting manufacturing of cars outside Europe and shrinking demand for luxury vehicles. "Each factor is dampening demand for steel, but together they represent a key threat for steel producers with exposure to the automotive industry and a secondary threat for other steel producers," Ratings said.