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Why the big fuss over benchmarking No. 1 bundles?


Auctions, like futures exchanges, sometimes seem like the magic bullet for price discovery. They let a commodity's value be demonstrated by disclosing actual transactions that can be cross-checked, free of bias. No human conversations needed to coax information from biased sources.

That's part of the reason there's such a fuss about the possible disappearance of the auto industry's factory bundle auctions, which have served as a pricing signal for industrial scrap. The controversy seems like a flashback to my first AMM stint in the mid-1970s.

The late Bob Himelfarb of Luria Brothers, a dominant scrap company of that era, hated the monthly table on rail scrap auctions. He didn't challenge the accuracy of the figures. What bothered Himelfarb was that some scrap suppliers would view the auctions as an objective measure of the rise or fall of steel scrap prices in general.

When rail scrap auction prices rose, suppliers would expect Luria Brothers to raise buying prices for other grades of scrap. But Himelfarb argued that railroad discards were exotic grades of scrap, signifying nothing about other materials, and maintained that AMM would be doing recyclers a favor by dropping the month-by-month series on rail scrap auctions.

Now the auto bundles auction is in question.

At one time, all of the Big Three U.S. automakers had semi-public auctions of baled steel production scrap from stamping plants. General Motors Corp., Detroit, dropped out in the mid-1980s, routing factory bundles back to the mills it buys steel from and to in-house foundries. And Ford Motor Co., Dearborn, Mich., gently faded out of the picture in late 2006, when scrap generation at its Chicago stamping plant fell below 10,000 tons a month; since the first 10,000 tons are committed to a certain mini-mill, winners of the Ford auctions found themselves no longer actually receiving any bundles.

Now Chrysler LLC, Auburn Hills, Mich., seems to have adopted a viewpoint reminiscent of Bob Himelfarb's, although it won't discuss the matter.

One interpretation among recyclers is that the automaker was upset by recent auction results. Price increases for arguably comparable grades of scrap were steeper than the increases in auction offers for factory bundles.

A subtler interpretation came from steel industry analyst Michelle Applebaum. She said Chrysler traditionally negotiated its steel costs annually while selling its scrap every month. Such a calendar made high bundle prices good for Chrysler, helping revenue without having an impact, most months, on steel costs. However, now that steelmakers have begun imposing midyear surcharges on auto steel based on raw material costs, Chrysler no longer enjoys a net benefit from maximizing the bundle prices, Applebaum said.

So Chrysler has begun experimenting with a system that allows scrap suppliers to bid for periods up to seven months, with monthly adjustments pegged to published prices. Whether that's a permanent change isn't clear yet.

The elusive hope for auctions to be a magic bullet for setting prices is probably unquenchable. However, the result is sometimes ironic.

After I returned to AMM, I wrote a story on a GM briefing about arrangements for pricing some of its materials (AMM, Nov. 25, 2002). The main speaker was Daniel Bealko, then global commodity manager for lightweight metals. The story ended "Bealko also advocated the increased use of electronic auctions for setting metals prices. He said that GM used CMXchange for this 'almost every day' to buy and sell metal. Even when electronic competitions can't be used for hedging, they furthered transparency, according to the GM manager. 'Purchasing has been historically wracked with scandals and debacles,' he added."

According to a federal indictment unsealed in March this year, Bealko and the owner of CMXchange were accused of an aluminum sales scam at GM's expense. Bealko dropped from sight during the investigation and spent several months as a fugitive from justice.

The dream of auction transparency sometimes runs afoul of technical obstacles, too.

The most systematic auction system for U.S. scrap is a platform run for the U.S. Defense Department by Government Liquidation LLC, Scottsdale, Ariz. The auctioneer said it sold 271 million pounds of scrap metal last year and claimed a 5-percent market share.

But putting auctions on the Web can lead to flaky outcomes. An April 2 auction of 1,308 scrapped computer monitors drew a winning bid of $720,000. Not surprisingly, that bid of $601 a pound wasn't followed by a check. (The bidding period spanned April Fool's Day, which may be significant.) Split into two lots for a second try, the defunct equipment was valued at $2.10 and $2 a pound.

Government Liquidation has a way to limit such nuisance outcomes, of course—many of its more important auctions require deposits to participate. But keeping out vagrant bidders via a deposit limits how many participate. In a May 20 auction, nobody appeared to want a lot of discarded air conditioners weighing 170,000 pounds, and one participant who bid a derisory $663.22 won the material for $9.34 a long ton.

Possible moral There's no magic bullet for ascertaining the market value of anything.

Whatever the method, Frank Morgan will be lurking somewhere. Pay attention to the man behind the Emerald City's famous curtain.

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