Overview of the Russian railway market in April-May 2015
Turnover fell by 2.1% against the backdrop of a 2.0% reduction in traffic volume
In April 2015, freight turnover decreased by 2.0% year-on-year to 99.8 million tons. There were increases in the loading of coal (+4.1%), iron ore (+8.9%), timber cargo (+2.7%) and ferrous steel scrap (+7.1%). Transportation of construction materials and cement decreased by 21.4% and 12.0%, respectively. Between 2014 and 2015, total loading, except for construction materials, will grow by an average of 1.5-2.0% year-on-year.
In April 2015, freight turnover fell by 2.1% year-on-year to 185.4 billion ton-km. Moreover, compared to last year, freight turnover fell below the loading level; export volumes decreased by 5.5% and domestic transportation fell by 2.0%, since export transportation distances are usually longer than domestic ones.
Coal transportation set a new growth record
In April 2015, Russian Railways’ loading of coal increased by 4.1% year-on-year to 25.4 million tons. 105.7 million tons of coal have been delivered by rail since the beginning of the year, which is a 4.0% increase on the same period of 2014.
Export coal transportation declined by 8.9% year-on-year, while domestic transportation grew by 17.7%. There was a fall in exports to the UK (-24.4%), China (-9.5%) and Ukraine (-28.0%).
The drop in coal supplies to the UK was a result of the UK doubling its carbon tax rates to 18.1 £/t from April 2015. This led other energy sources being increasingly used for electricity generation and to a reduction in the use of coal.
Another factor contributing to the reduction in exports was a landslide at Zarechny with the result that companies reduced coal exports by approximately 1.5 million tons by the strewn branch railway line toward Erunakovo station.
However, in general, Russia's position in the global coal market is expected to strengthen. Experts point out that low coal prices make production unprofitable for Australian and American companies. According to the consulting company CRU, the US will reduce the production and export of metallurgical coal in the coming five years. Approximately 16 million tons of coal mining capacities in the US will be unprofitable if the forecast for 2017-2019 prices is correct. On that premise, the United States may export about 40 million tons of metallurgical coal by 2018-2019, compared to over 60 million tons per year in 2011-2012. Such conditions open up new opportunities for Russian coal export, but further revaluation of the ruble (the Russian ruble strengthened by 11% in April) could strike a serious blow to domestic exporting companies.
Coal deliveries to the domestic market have been growing since August 2014 by an average of 4-18% year-on-year. Such growth in demand primarily resulted from an increase of steel production for export. In the first quarter, steelmaking and iron smelting rose by 3.5% and 3.1% year-on-year, respectively, and rolled ferrous metal production grew by 4.1% year-on-year. Another factor affecting coal demand was the lack of water in the river system. According to the May report of the Federal Agency for Water Resources, there is a lack of water in the following regions: Khakassia, Krasnoyarsk Territory, the Irkutsk region, Buryatia, Tyva, the Zabaikalye Territory, Chukotka and the Nenets Autonomous District, the Arkhangelsk, Vologda, Murmansk and Sakhalin regions. There is a similar situation in the Don River basin. Due to the lack of water resources, domestic hydroelectric stations cannot produce the required turbine output, meaning that coal-fired power stations are being increasingly relied upon to generate electricity.
Despite a slight drop in export shipments in April, the potential of coal consumption will be supported by both domestic and external demand, particularly by Asia-Pacific countries (especially Japan) and the EU. Coal transportation may remain at the current high level in the medium term, but grow in the long term.
Petroleum and petroleum products: domestic transportation grew, exports fell
In April, Russian Railways’ loading of petroleum and petroleum products remained at the same level as the previous year and amounted to 20.6 million tons. 86.5 million tons of petroleum products have been delivered by rail since the beginning of 2015, which is a year-on-year drop of 0.3%.
In April, domestic transportation of petroleum and petroleum products increased by 2.2% year-on-year, while export shipments decreased by 3.2% year-on-year. There was a drop in exports to the UK (-61.5%), China (-21.5%), Finland (-34.7%) and Kazakhstan (-50.7%).
Russia’s Ministry of Energy has developed a draft energy strategy which accounts for Western sanctions remaining in place until 2035. According to the document, crude oil production in Russia will fall to 514 million tons (-2%) by 2020 and to 476 million tons (-10 %) by 2035. At the same time, petroleum exports are expected to increase by 15-17% by 2025 due to the reduction of downstream refining in Russia because of the oil industry’s tax maneuver. By 2020, production of gasoline and diesel may grow by 21% (to 46 million tons) and 24.6% (to 95 million tons), respectively, as a result of increasing oil conversion depth.
According to the Ministry of Economic Development and Trade’s April estimates, the baseline forecast for crude oil production in Russia in 2015 is a possible increase of 0.3% year-on-year; optimistic predictions suggest a year-on-year increase of 0.6%. Oil exports are expected to grow by 3% year-on-year. As a result of modernizing some oil refineries to increase oil refining depth and closing down outdated facilities, in 2015, petroleum product exports may increase by only 1.6% (year-on-year against the baseline scenario). In April, crude oil supplies to refineries decreased by 0.1%.
Therefore, in the medium term, transportation of petroleum products by rail is expected to remain high, and traffic will continue to redistribute from domestic destinations to exports. However, crude oil transportation will decline due to a higher share of pipeline transportation in exports.
Construction materials and cement: traffic recovery not expected until 2016
In April, Russian Railways’ loading of construction materials and cement fell by 21.4% and 23.3% year-on-year to 10.3 million tons and 2.3 million tons, respectively. 23.9 million tons of construction materials and 7.6 million tons of cement have been shipped by rail since the beginning of the year, which represents year-on-year reductions of 21.9% and 13.6%, respectively.
In April, there was a drop in demand for construction materials and cement in most Russian regions. Exceptions to this were transportation to the Krasnodar region (+30.5%), Kaluga (an increase of up to 4 times) and the Saratov region (+17.8%).
According to Rosstat, in the first quarter 2015, cement production decreased by 4.6% year-on-year, production of reinforced concrete structures and constructions fell by 11.0% year-on-year and production of aggregates dropped by 10.8% year-on-year. At the same time, the scope of work carried out in the ‘Construction’ segment fell by 4.7% compared to the corresponding period of 2014.
According to the Minister of Labour and Social Protection, M. Topilin, there are plans to reduce Russia’s construction workforce by 13 ths, or 5% of the total workforce.
At a nationwide conference held in Russia in May 2015 entitled ’The State of Russia’s Construction Industry’, the Minister of Construction and Housing, M. Men, spoke about how the market for basic construction materials is stabilising: "Cost analyses show that prices for metal products rebounded late last year to their previous sky-high rates, and price increases for sand and PVC windows compared to September 2014 did not exceed 1.5%. At the same time, prices for cement fell by 3.4%."
The preconditions for recovery in the construction industry are already present, but significant changes are not expected before 2016.
Iron and manganese ore: the fall in exports is slowing
In April, Russian Railways’ loading of ore increased by 8.9% year-on-year to 9.8 million tons. 36.4 million tons of ore have been shipped by rail since the beginning of the year, which represents a 2.8% year-on-year increase. In April, ore transportation hit a 15 year high.
Domestic transportation rose by 13.1% year-on-year and the reduction in export transportation slowed to 5.3% (compared to a 13.3% drop in March 2015). The structure of ore exports continues to change. The following countries are increasing Russian ore imports: Turkey (+45.9%), Slovakia (+35.5%), China (+4.7%), Poland (+39.7%) and Germany (growth of 3.5 times). Exports fell to the United Kingdom, Romania, Czech Republic and Ukraine.
The cost of iron ore in April rose to $ 60/t after BHP Billiton reported that they were going to postpone their project in Port Hedland, where the largest port terminal for bulk iron ore export is located, at a cost of $ 600 mln.
Despite the continuing oversupply in the world market, Australian mining companies intend to increase production in order to cut the unit cost of production. Therefore, in the second half of 2015, Rio Tinto is planning to bring additional capacity of 60 million tons/year on line. Roy Hill will bring its new mine into operation in Pilbara, which will have a capacity of 55 million tons/year. In addition, BHP Billiton is taking measures to increase its capacity by 10 million tons/year.
The state is planning to lend support to Russian metallurgists to help them attract inflows of investments for developing deposits. One of the plans of the Ministry of Industry and Trade is to include metal ore extraction projects costing more than RUB 20 billion in the list of projects qualifying for concessional financing (where loans are offered at rate no higher than 11.5% with a financing limit of RUB 16 billion per project). Among the qualifying ore projects are the Stoilensky mining and processing works modernization, and Evraz’s projects, including the development of the Taiga iron ore deposit in Yakutia and the reconstruction of the Sheregeshsky mine in the Kemerovo region.
There is discussion about reducing tariffs for iron ore export through the port of Murmansk for distances up to 1.1 ths km by 20%. This may have a positive effect on transportation volumes.
The strengthening of the ruble in April made exports of low added value products more attractive. In the short term, this will contribute to the growth of ore export cargo.
Ferrous metals: strong export growth against the strengthening of the ruble
In April, Russian Railways’ loading of ferrous metals fell by 3.3% year-on-year to 5.8 million tons. 24.5 million tons of ferrous metals have been shipped by rail since the beginning of the year, which is an increase of 4.7% compared to the same period of 2014.
Exports continued to grow in April, rising by 11.6% year-on-year. There was an increase in ferrous metal supply from Russia to Turkey (+19.5%), Taiwan (+27.1%), Belgium (by 1.5 times), Mexico (+30.2%) and Germany (+47.3%).
In April 2015, steel production increased by 0.6% year-on-year, but decreased by 2.5% in comparison to March 2015. Rolled ferrous metal production fell by 2.8% year-on-year and by 3.4% compared to March 2015.
To encourage steelmakers to introduce new production technology, the Ministry of Industry and Trade has an initiative to include priority industry investment projects costing more than RUB 20 billion in the list of projects that qualify for concessional financing. Nine of these projects belong to UC Rusal (modernizing facilities and constructing new ones), two to Severstal (modernizing facilities), and three to Mechel (modernizing facilities).
In addition, the Ministry of Industry and Trade suggested that the government cancels the extra charge to railway tariffs for exporting metals (a 13.4% premium) introduced by Russian Railways in 2015. However, the monopoly has not yet confirmed the possibility of changing tariffs for transporting steel products.
In order to weaken the Russian export traffic of ferrous metals, which increased after the devaluation of the ruble, in May 2015, the EU imposed a six-month import duty on transformer steel of 21.6% for NLMK and other Russian producers. The revaluation of the ruble slightly weakened Russian ferrous metals’ position on the world market. In this situation, selling ore for export seems more profitable.
In the short-term, there may be a reduction in ferrous metal transportation due to the decline in the Russian construction and engineering industries, the revaluation of the ruble, as well as the EU sanctions.
Grain and grain mill products: export loading decreased due to the imposition of wheat export duties
In April, Russian Railways’ loading of grain and grain mill products fell by 20.0% year-on-year to 1.2 million tons. 5.8 million tons of grain have been shipped by rail since the beginning of 2015, which is a year-on-year increase of 13.7%.
In April, there was a reduction in both domestic and export grain transportation, which fell by 5.0% year-on-year and 39.7% year-on-year, respectively. These low figures are a result of the wheat export duty. The government expects that when this duty is abolished in mid-May, Russian farmers will have additional funds for the spring farm work due to export supplies of up to 1-2 million tons.
A new mechanism for calculating the grain export duty may come into force from 1 July. Its effect is as follows: if the price on the domestic market is lower or equal to RUB 12,000, an exporter will pay $1 with every ton of grain. If the price is higher, the fee may amount to 30% of the export price for 1 ton minus $69, or 40% minus $93.
The Ministry of Agriculture expects a grain harvest of 100 million tons in 2016 if the current level of industry funding is maintained.
In the short term, grain transportation from Russia to CIS countries may increase.
Chemical and mineral fertilizers: transportation declined due to a drop in exports
In April, Russian Railways’ loading of mineral fertilizers fell by 2.3% year-on-year to 4.2 million tons. 17.1 million tons of fertilizers have been shipped by rail since the beginning of 2015, which is a 1.2% drop compared to the same period in 2014.
A 13.1% year-on-year drop in export shipments is the main reason for the loading decline. Domestic transportation rose by 15.4% during the same period.
The main decline in exports came from Brazil, where supplies halved due to the worst drought in the country for over 80 years.
Domestic transportation of fertilizers may remain stable until the end of the year, while export transportation may decrease in comparison to the previous year. Total traffic volume is expected to drop in direct proportion to the amount of lost output resulting from the incident at the Solikamsk-2 mine.
Drop in sales and rates of old generation railcars against the backdrop of a decline in transportation
The data on the rolling stock sales made by plants in the CIS is taken from ’Rolling Stock Market’ magazine.
In April 2015, railcar producers in the CIS sold 2.2 ths railcars, which is 25% less than in March 2015 and a reduction of 69% compared to April 2014.
Many Russian railcar producers were not able to solve issues relating to financing and demand for their products, which is why they were forced to stop shipping old generation railcars.
Uralvagonzavod (UVZ) and Altaivagon reduced sales significantly by 66% and 62%, respectively. These companies almost stopped shipping railcars equipped with 25 ton bogies, although UVZ shipped two of these railcars.
In April, the out-of-operation fleet on Russian Railways’ network continued to grow and totalled 132 ths railcars, 59 ths of which were gondolas. The number of railcars written off from the Russian Federation’s fleet remained high at approximately 6.5 ths railcars.
Despite the reduction of the commercially usable fleet, leasing rates for rolling stock did not grow in April-May and remained at RUB 450-500/day for gondolas. This is due to the disposal of a large number of railcars previously transporting cheap construction materials (including gravel and sand). The transportation yield of these railcars was below the market average at RUB 300-350/day, so operators are willing to deliver them at low rates.
In addition, the market still has a significant number of older railcars with expensive imputed operating costs (such as current repairs, which are generally paid by operators). These railcars break down twice or three times more often than new types of railcars. It results in operators incurring additional costs of RUB 150-200 /day, which is why old generation railcars are available to lease at an appropriate discount compared to the new fleet.
Leysana Korobeynikova, Senior Analyst
