Good morning. Another Sunday and another edition of “It’s time to talk about lumber.” After 5 weeks of lethargy in the lumber markets, finally a glimmer of activity this past week. Some traders attribute the activity to the old adage of a market change of direction after a holiday weekend. Other views are more practical, primarily the need to purchase inventory.
The bigger question remains. Now that we have found trading levels for most of the lumber market, how long will the buying last, and how high can prices move over the short term? Let’s move on and find out.
Dead cat or bounce?
As mentioned above, most of the lumber markets have found an acceptable trading level for both buyers and sellers. We have even seen a bottom formed on some items with further consolidation and a modest push higher in pricing.
As we await additional confirmation of a price rally through higher prices and increased order files at the mill level, we will undoubtedly begin to hear the oft used phrase “dead cat bounce.” Why? Because buyers remain hesitant to purchase inventory given the time of year and current economic headwinds.
Although most buyers judiciously liquidated their higher priced inventory over the past 5 weeks, industry uncertainty and indecision remain. This especially holds true for the vast majority of the lumber buyers that have no purchasing plan in place. These buyers are always looking for the dead cat bounce because they have no plan, and they are hoping prices will quickly correct and resume their path to the downside. They need inventory but can’t make a decision as to when to buy and at what price level works for them. Quite the clueless lot.
This fact in itself should tell you market pricing has bounced off a cycle bottom and will move higher. All buyers across the lumber industry liquidated a portion of their inventory, some more quickly than others. Those with a purchasing strategy began the liquidation process early and aggressively to take advantage of lower prices. These buyers were ahead of the market finding value and purchasing into weakness to average down their cost structure. They followed their plan to the bottom of this price cycle and can now concentrate on selling their inventory positions.
Now we’ll see the no planners be forced to step into a rising price cycle to buy. With higher prices ahead them, they will resort to their usual tactic of buying less more often which in turn will support higher prices.
Both May and June are active outtake months in the lumber industry. Whether buyers like it or not, they will be forced back into the market to purchase additional inventory needs over the short term. Now is the time for them to decide whether they’re seeing a dead cat bounce market or a market that is ready to bounce higher. Let’s move onto fundamentals and continue this discussion.
Fundamentals
What did we see in the cash markets last week? If you look closely, you’ll see a mish mash of price signals not currently coalescing to provide a cycle bottom across all species. Virtually everyone in the industry continues to point to the extreme discount found in 2x4 through 2x10 SYP. Most believe this market can’t possibly gain traction and move higher until SYP corrects, consolidates, and moves higher in pricing. There is some truth to this thought process if you’re in a market that has used SYP in construction or can persuade your customer base to make the switch from SPF and/or Fir. On the other hand, as we’ve mentioned in prior posts, there are numerous reasons why the industry doesn’t use SYP.
Or you can just apply basis supply/demand economic principles to various lumber species pricing and know the market will almost always gravitate to the lowest price option for material. That said, at some point over the next couple of weeks, treater activity will increase, and we will see an inventory build among truss manufacturers to cover existing jobs and those further out in their production schedule. Don’t believe for a minute that these two largest users of SYP had loaded the boat on their inventory positions several hundred dollars ago at higher prices. I was out running errands yesterday morning and drove by a local box store that was already extremely busy at 10 am. Lots of plants and landscape materials driving out of the parking lot but also a good number of pickup trucks loaded with SPF, treated lumber and various panel products. Spring weather is here, and people have projects to begin. Add in those pro yards that can species switch and the discount in SYP will slowly disappear.
The same will hold true for US western species. Currently, you’ll find a price disconnect between coastal product and those same items available from Inland producers. This is a much easier, and more common, species switch for fir users. Again, at some point over the near term, both coastal and Inland prices will consolidate and move higher, each pulling the other to higher price levels. This is especially true with overlap in both truck and rail access across regional markets in the PNW and into the California market. Basic economics once more, buyers will look to purchase the least expensive option in species for their given markets.
How about Canadian SPF? Take a look and compare, most items are already approaching a price equilibrium, especially for product being shipped into the Great Lakes zone and CFF. Keep an eye on Boston rate, pricing is close behind, especially given a good amount of production out of this zone can ship via truck, usually meaning shorter transit times from mill to end users. The same also holds true for Euro import SPF. Due to port locations, and the ability to ship truckloads versus cars, activity ramped up through last week with prices stair stepping higher as port inventories were picked over for prompt wood. If you’re a Euro SPF user and didn’t by some inventory this past week, you’ll be in for a surprise while making your Monday calls to your favorite importer. About the only items available are the usual odd items that have the slowest turns at the port. If these are items you can use, make the firm offers and grab yourself some inexpensive inventory before they too start to disappear.
Still trying to decide whether this is a dead cat bounce market or a real bounce higher in price activity? Go try to find a deal on studs this coming week. Aside from weakness in 2x4-8’ trims in ESPF, virtually every other trim in every species has firmed and pushed higher in price. This is a sure sign that the pro yards have made the firm offers on volume and are replenishing for upcoming jobs in May and June. And those 2x4-8’ trims in ESPF? If you need them, buy them. As I mentioned above, with better weather ahead, and increasing weekend activity, the box stores will be taking their draws on one of their best volume DIY lumber items.
Our expectation moving forward is for the entire lumber price structure to continue to consolidate and coalesce with pricing gradually working higher. Another countercyclical price move similar to what we experienced in both mid-November and the beginning of February. As mentioned above, over liquidation of inventory at the wrong time of year. And how long do we expect this rally in prices to continue? Given the time of year, perhaps through May and into June before inventories are balanced and prices peak. With economic headwinds gaining strength with higher inflation and increasing interest rates, we may be seeing the last real market push higher in lumber prices for the year. If you haven’t properly prepared, you can continue to hope for the dead cat bounce. If you have prepared and have a purchasing strategy, you can look forward to a bounce higher in prices and additional profit for your Q2 business plan.
Technicals
With the cash lumber markets finding price support, and gradually gaining strength through the week, lumber futures pivoted off the swing low set on April 12th and moved higher through Thursday of last week. From Monday through Thursday, we saw May post a gain of $136.00. That rally came to a screeching halt on Friday as the equities markets imploded pulling most commodities lower.
That aside, there were several points of interest noted on the week. Although volume remained on the light side, we did see total open interest have its best day on Friday closing the week at 2848. We also saw 13 May EFP’s posted on Monday. Congratulation to those forward price participants, and you can bet those won’t be the last EFP’s we see transacted in the May contract before expiration on May 13th. That said, we also witnessed cash basis convergence in the May contract twice on the week. The first time was on Wednesday around the $995 level, and then again on Thursday at the high on the day at $1041.40 with RL cash print that evening reported at $1040.
There was the expectation that we would see May continue higher on Friday as cash prices firmed, but it was not to be with commodity prices struggling against the precipitous drop in the equities markets. On the flip side, if you’re an SPF buyer, the May contract once again, is your least expensive option to purchase the product through the EFP process at Friday’s close at $1002.60, a $37.40 discount to cash. Both an opportunity and value.
Just to remind everyone, there are only 5 trading sessions remaining before spot month trading begins in the May contract. Two things to remember here. First, trading in the spot month May contract will have no daily price limits. Secondly, beginning with trading on May 2nd, the contract in essence acts as a sawmill with a 2-week order file. You can either buy SPF on the cash market, or buy the May contract, whichever is your least expensive option.
The change in futures pricing dynamics also gives us another opportunity to assess value and risk in the May/July spread and the back month spreads. You should also be cognizant of the back month pricing structure against actual cash prices over the same time period as 2021. We have mentioned this before. Is July a value at $935.60 against current cash levels at $1040? On the surface perhaps, but consider the first week of July 2021, cash was trading either side of $700. Does this then suggest we short the July contract? If you believe cash prices for July will mirror those of last July, you may want to contemplate a short strategy should July move higher over the near term. Risk can be high with this amount of time decay between now and July. We suggest you consult your hedging expert.
You will also need to be aware of the new daily price limits to take effect with trading on May 2nd. After the CME conducted their semi-annual calculation on daily price limits, which concluded on April 14th, it would appear the new daily price limits will revert to $49 and $74 expanded according to the CME methodology for calculating the limits. This will supersede the current daily limits imposed by the CME of $57 and $86 expanded. Also be reminded, with the spot month May contract trading with no daily limits, either of the front 2 trading months, July or September, can trigger the daily price limit expansion beginning on May 2nd.
And let’s not forget about some technical numbers for the upcoming week. We’ll keep it simple to follow for the short term. We see support coming in at the 4-21 daily low at $989.80, the 20-day Ex. MA at $977.07, and the moving average at $952.07. Upside resistance is seen at the 100-day Ex. MA of $1005.37, the 50-day Ex. MA at $1025.07, the 4-22 daily high at $1029.90, the 4-21 daily high at $1041.40, and the BBH at $1059.07. And as we all saw on Friday, it’s worth following the equities markets through the week just in case we see another precipitous drop in the indexes.
Dollars and Sense
National Association of Home Builders. Not so encouraging news from the April US NAHB Housing Market Index this past week as the Index fell for the fourth consecutive week. The Index dropped 2 points to 77 from the March number of 79. This was on target against market forecasts. Any number over 50 is considered a positive. The current sales sub-index was down 2 points to 85, buyer traffic fell 6 points to 60, and surprisingly, sales expectations over the next 6 months was actually 3 points higher to 73. The usual headwinds remain in play; supply chain issues, higher mortgage rates, increasing housing prices, and the cost of construction. The second half of the year should prove to be more interesting.
National Association of Realtors. According to the NAR, sales of existing homes in the US dropped 2.7% month over month in March. This is also 4.5% lower year over year. The SAAR of 5.77 million was the lowest number since June 2020 and below forecast of 5.8 million. This is the second consecutive monthly drop in existing home sales. Not surprisingly, the inventory of unsold existing homes, at 950,00, increased supply to 2 months. On the flip side, the median existing home price set an all-time record high at $375,300. This is a 15% increase over 2021. Can you say “transitory” inflation?
Mortgage Bankers Association of America. The weekly MBA report was rather disappointing, yet not unexpected. For the week, mortgage applications fell for the 6th consecutive week by 5%. The refinance component dropped 7.7% while the purchase index was 3% lower. Mortgage rates didn’t fare any better with the average 30-year fixed-rate mortgage adjusting higher to 5.2% from the previous week’s level of 5.13%. This is the highest rate since 2010. Once again, the usual culprits come into play, housing affordability, inflation, higher Treasury yields, and low housing inventory. And we don’t see this scenario changing any time soon.
US Department of Commerce. I’m sure we have all seen the March housing starts and permits numbers from this past week. Everyone looks at the headline numbers on a Seasonally Adjusted Annual Rate. How many take the time to scroll back through the report to look at the actual numbers, not seasonally adjusted? For those that haven’t, here they are for your review. We’ll look at permits first. In March, month over month, total permits were up almost 29%. A good, solid number with single-family 23% higher followed by multi-family increasing 41%. The year over year permit numbers were a bit less impressive. Total permits year over year are up 7.5% with single-family over 3% lower and multi-family up 38%. Easy to see where all the strength is coming from in the permit numbers. Hopping over to actual housing starts, March numbers month over month were solid with total starts almost 17% higher with single-family up 17% and multi-family higher by over 18%. Not seasonally adjusted year over year numbers mirror the permit trend with total starts almost 5% higher with single-family starts off almost 4% but multi-family pushing higher by almost 30%. Year over year actual numbers for single-family permits and starts remains sluggish, as do completions. On the positive side, homes under construction are up over 24% year over year. The US housing market would really be able to flex its muscles if the industry could get all of the numbers to fall into place. Tall order moving forward considering inflation, mortgage rates, labor constraints, and ongoing supply chain issues. We’re not optimistic for the back half of 2022.
West Fraser. Another interesting news release from West Fraser Timber this past week involving share repurchases. According to the release, West Fraser has “approved the commencement of a substantial issuer bid pursuant to which the Company will offer to purchase from shareholders for cancellation up to US $1.25 billion of its outstanding Common shares.” You can find the particulars on the West Fraser website. We view this as a positive move by West Fraser as they look to control more of their financial “destiny” moving forward in the forest products industry. With a substantial presence in lumber, panels, and engineered wood products, this plan should enable the company to be more agile in their manufacturing and marketing approach across their global reach. Time to keep an eye on additional growth from West Fraser.
Anecdotal Thoughts
Canfor. Over the past several years, a good portion of lumber pundits have often discussed the demise of the BC forest products industry. We’re all aware of the long list of negatives encountered by these sawmills. That said, we can add more fuel to the fire with Canfor’s recent announcement to invest $130 million to modernize and upgrade their Urbana, Arkansas SYP sawmill facility. Canfor plans to make major improvements to the sawmill, log yard, and planer beginning in Q3 2022. Approximate completion time for the project will be 18 months. Annual production will be increased by 115 million board feet. What does this say about their future capital investment and growth strategies for their BC and Alberta sawmills? At what point will US SYP production eclipse WSPF production in Canada? Not a question of if, but when.
West Fraser. This past week, West Fraser Timber announced the voting results for the election of directors at their annual shareholders meeting held on April 20th in Quesnel, BC. After reading through the news release, it appears not much has changed with their corporate governance. Obviously, with shareholder value in mind, and company growth on the rise, their policies and programs must be working. Of course, if it ain’t broke, why fix it.
OSB. For those keeping an eye on the OSB markets, it will be interesting to follow the anticipated re-launch of the currently idled Wawa OSB/pellet mill in Wawa, Ontario. The Cossette family is planning on investing approximately C$180 million to restart the mill with a production capacity in the neighborhood of 500 mmsf. This facility last produced OSB for Weyerhaeuser before being indefinitely curtailed in 2007. Who doesn’t like OSB at these price levels if you’re on the production side of the business? We’ll keep following the progress of this re-start.
SYP vs SPF. In addition to our note above on Canfor and their Urbana SYP sawmill, if you’re not tracking the price spreads between SYP and SPF, you need to start. With the continued growth of SYP production, plus their competitive pricing via truck and rail into various US markets, now is a perfect time to begin marketing the product to your customers. Perhaps the narrows won’t work for you depending on your given market location, but most yards today can use SYP wides in both commercial and residential construction applications. Now is a great time to not only save yourself some inventory cost, but you can also add profit to your bottom line. It’s definitely worth the effort.
9’trims. Time to watch that bellwether stud item, 2x4-9 trims in all species. Once pricing on this item consolidates and forms a bottom, their move higher oft times portends an increase in pricing across the entire lumber market structure. And once the 9’ trims start to increase in price, you had better go buy yourself some 10’ trims. Not many mills produce a lot of volume in 10’ trims, so once the mill inventory is gone, expect higher pricing, extended order files and increased lead times. Don’t get caught short for your contractor customers.
Another week completed and a new one ahead of us. Thanks for reading, as always, we appreciate your support. For those with buyers that have been proactive and working a purchasing plan, congratulations, you’re ahead of the game. Keep digging, you may find additional values and opportunities in the coming week. As mentioned above, if you are able to switch species, identify those specific items and compare pricing. For most items, the firm offers have been wrung out of the market with pricing shifting higher. Continue to be prepared and have a plan. Be proactive and control your own purchasing decisions. Volatility may moderate moving closer to the expiration of the May futures contract on Friday, the 13th. Both cash and futures pricing at that juncture should give us a hint of price direction over the short term.|