- In 2021, softwood lumber mills will increase production to meet stronger expected demand.
- Softwood lumber prices have began to fall in late September and early October, and will continue to decline through January of next year.
- With production remaining more in line with demand next year, prices will fall back toward more “normal” profit levels.
While the overall economy is experiencing the most severe recession since the Great Depression, the two end-use markets for softwood lumber, new residential construction (housing starts) and residential improvements, have actually been doing very well. US housing starts plunged nearly 40% from their first-quarter average of 1.48 million units (SAAR) to 0.93 million units in April as fears of a rapid decline in demand caused builders to delay projects.
However, plunging interest rates and rising income (as households began receiving government transfer payments) actually caused demand for homes to surge. As a result, builders quickly ramped up production, with July starts slightly exceeding their 2020Q1 average at 1.50 million units. Meanwhile, residential-improvement expenditures saw very little change, slipping less than 1%, from $148.2 billion ($US 2012, SAAR) in the first quarter to $147.6 billion in the second.
We expect residential-construction markets will continue to outperform the overall economy over the next year for a number of reasons. First, interest rates will remain low. Second, there is a tremendous amount of pent-up demand for housing in the US (estimates of underbuilding over the last decade range from 1.5 to 4.0 million units). Third, demographics are highly favorable to strong demand, with the largest age groups currently in their late twenties and early thirties, prime home-buying years. Finally, we expect a shift from multifamily to single-family living as households leave high-density urban centers in favor of lower-density suburbs. This shift toward single-family construction will result in higher demand for softwood lumber as a new single-family home in the US uses about three times more wood than a new multifamily home.
We also expect strong residential-improvement demand through 2021. The economic conditions that are favorable to new home construction (low interest rates and decent income growth) will also bolster residential-improvement expenditures. In addition, COVID-19-related closures have limited the activities households can spend their time and money on. With households dramatically reducing their spending on vacations, cultural or sporting events, and going out to eat, fixing up their homes is one of the few things they have left. This, combined with the aging housing stock (the average home built in the US today is nearly 25% larger than the median home in the housing stock), will cause residential improvement expenditures to remain high through 2021.
These factors should push US sawnwood apparent consumption up 2.7% in 2020 and 7.9% in 2021.
US sawnwood exports plunged in 2019 as the trade war with China heated up and the tariff on Chinese imports of US softwood ratcheted up to as much as 25%. Exports continued to fall in the first half of 2020 as COVID-19 shut down the Chinese economy.
As a result, we expect exports to fall an additional 7% in 2020. We expect the global economy will begin to rebound in 2020 and US−China relations will begin to improve. Consequently, we expect exports will increase 12% to 2.4 million cubic meters. While up sharply from 2020 levels, this will be well below the average of the 2010s.
Capex plunged in 2020Q2 as companies strove to preserve working capital, and as economic uncertainty slowed expansion. Moreover, any expansions in the US South were offset by closures in the West. Mills will begin to invest some of their recent profits, but only after they gain confidence that housing and other enduse markets will not slip back into a COVID-19-induced recession.
As a result, US capacity will be up just 0.5% in 2019. Once mills see that the recent demand growth is not fleeting and prices don’t plunge to costs, companies will begin to invest in their mills. However, Western fiber-supply constraints will hold total US capacity growth to an expected 1.1% in 2021.
We expect softwood lumber production costs will edge lower in 2020 for a number of reasons, including low lumber prices in 2019 and weak consumption in 2019−20 driving down timber prices, closure of higher-cost facilities as mills try to bring production in line with weaker demand, and falling manufacturing costs. Most components of manufacturing costs will fall in 2020. Energy prices have fallen sharply. Labor markets have weakened tremendously, putting downward pressure on labor costs. Finally, mills will cut miscellaneous costs in an effort to stay as lean as possible while there is so much uncertainty surrounding COVID-19. As a result, we expect inflation-adjusted costs will fall an average of 1% in 2020.
Lumber production costs will likely see a near-term bottom in 2020. We expect most costs will increase as lumber demand and prices begin to recover in 2021.
Softwood lumber prices have hit record levels in 2020. This is not because demand is exceptionally strong. Rather, it is because demand is much stronger than market participants expected. In March−May, mills slashed production and dealers aggressively drew down inventories in anticipation of sharply weaker demand as fear and uncertainty around COVID-19’s effect on the economy dominated people’s planning. However, instead of plunging as most people expected, end-use markets for softwood lumber actually strengthened significantly. This drove dealers back to the mills at a time when production was down and mills didn’t have inventory.
Consequently, softwood lumber prices have rocketed higher.
Softwood lumber prices have began to fall in late September and early October, and will continue to decline through January of next year. For the year as a whole, we predict prices will increase an average of 48% from last year.
After hitting such extreme highs this summer, we expect prices will fall 17.5% in 2021. The decline is not because of weak demand or falling operating rates. Part of the price spike in 2020 was because mills cut back production in the expectation that demand would plunge. We assume this will not happen in 2021; in fact, we assume mills will increase production to meet stronger expected demand. With production remaining more in line with demand next year, prices will fall back toward more “normal” profit levels.
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