June 23-25, 2008

North American and Global Forest Product Market Trends

Peter J. InceUS Forest Products LaboratoryMadison, Wisconsin

Update on>

>

Principal Forest Product Markets:Principal Forest Product Markets:

• Paper, Paperboard Paper, Paperboard & Wood Pulp & Wood Pulp

• Lumber & Wood PanelsLumber & Wood Panels

Paper, Paperboard & Wood PulpUpdate on>

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After decades of robust growth, U.S. wood pulp output peaked and declined over the past decade, impacted by paper recycling and economic globalization since the early 1990s . . . and now economic recession in the past year!

Source: AF&PA, API, Forest Service, International Woodfiber Report

Pulp is still a big part of U.S. wood demand, but growth rates changed from around +2% to 3% per year in '70s and '80s, to negative growth since the mid-1990s.

U.S. Wood Pulp Production since 1900:Update on

>

Global economic forces were behind the change.

GlobalizationGlobalization

Trade liberalization (GATT Trade liberalization (GATT WTO) WTO)

Expanded global commerce Expanded global commerce

Rise of manufacturing in China & developing countriesRise of manufacturing in China & developing countries

Increased importance of currency exchange ratesIncreased importance of currency exchange rates

Collapse of global financial system (current recession)Collapse of global financial system (current recession)

Update on>

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115

1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

U.S

. Do

llar

Ind

ex

Real Broad Dollar Index Since July '08

Globalization Globalization

Long-term historical average (97.5)

Source: U.S. Federal Reserve (H.10 Real Broad Dollar Index)

$

The real dollar exchange value index soared above-average for much of the past decade (until 2005), placing U.S. manufacturers at a competitive disadvantage. From 2005 to '08 the dollar was below average, helping improve the U.S. trade balance . . . but since July the dollar has gained as the world economy sank into the current economic recession . . .

(Not good sign for U.S. trade)

Real Broad Dollar Index

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1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

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wth

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r.)

U.S. Industrial Production Year-Over-Year GrowthSince June 2008

Source: U.S. Federal Reserve (G.17 Industrial Production, seasonally adjusted)

As the dollar soared, imports increased. Manufacturing growth went abroad. U.S. industrial output collapsed in the recession of 2000-2001, but rebounded with a weaker dollar. Growth remained less than 4% avg. growth of 1950-2000, . . . and, since last June, U.S. industrial output has again collapsed !!!

!!!

Global Global ChangeChange Change in GrowthChange in Growth

As manufacturing growth shifted from As manufacturing growth shifted from North America to Asia and Europe, so did North America to Asia and Europe, so did growth in paper and paperboard demands growth in paper and paperboard demands (following global demands for packaging, (following global demands for packaging, print media & print advertising).print media & print advertising).

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1977-1986 1987-1996 1997-2006

Change in Paper & Board Production (million metric tons per decade)

N. America

Europe

Asia

Asia, Europe, and North America account for 90% of worldwide growth in paper & paperboard use.

Demand growth has been sustained in Europe and Asia.

However North American demand has diminished in the past decade.

China became the world’s most rapidly expanding consumer and producer of paper and paperboard, likely to surpass the USA within the next decade.

GlobalizationGlobalization

Source: FAOSTAT

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1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

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ust

rial

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ctio

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102

Pap

er &

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Pu

rch

ases

(m

illio

n m

etri

c to

ns

year

-to

-dat

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U.S. Industrial Production Index

U.S. Paper & Board Purchases

Sources: U.S. Federal Reserve (G.17 Industrial Production); AF&PA (Paper and Board Purchases)

U.S. paper and paperboard demands (purchases) faintly followed the rebound in industrial production after the recession of 2000-2001, but U.S. paper and board demands plunged since last summer along with declining U.S. industrial production in the current recession . . .

Down 15%since the2000 peak

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1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

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plo

ymen

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usa

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U.S. Pulp, Paper & Board Mill Employment

Sources: U.S. Bureau of Labor Statistics

[The Canadian industry recently entered a similar period of downsizing and consolidation.]

The pulp & paper industry has responded to slower demand growth with consolidation & downsizing . . .

Since 1997, dozens of older less efficient mills were closed, and over 40% of all U.S. pulp, paper and board mill jobs were eliminated . . . and another 18 mills were closed and 8,000 mill jobs eliminated in 2008 . . .

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1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

An

nu

al (

YT

D)

ou

tpu

t/e

mp

loy

ee

(m

. to

ns

)

Sources: U.S. Bureau of Labor Statistics (pulp, paper & board mill employment) AF&PA (paper and paperboard production, in short tons)

Consolidation and downsizing yielded productivity gains – – Output per worker at U.S. mills increased by over 40% just since 2001 . . . Productivity has leveled out but not declined in this recession . . .

U.S. Paper & Board Output per Mill Employee

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Rea

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Ind

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ExportsImports

Data Sources: AF&PA, Commerce Dept. (trade statistics); Federal Reserve (dollar index);[Data include paper and paperboard products and wood pulp shipments, and exclude recovered paper]

U.S. Pulp, Paper & Board Product Trade(Tonnage) As the dollar

surged from 1996 to 2002 the U.S. trade gap in pulp, paper and board bulged to 8 million metric tons (2002).

However, with a weaker dollar and productivity gains, the trade gap narrowed, and in 2008 the trade gap was closed (U.S. exports exceeded imports).

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1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

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PaperboardPaperPulp

Market Trends – U.S. Pulp, Paper & Board Price Indexes

Source: BLS (Bureau of Labor Statistics)

Prices (in U.S. $) increased by ~ 50% over six years, after the recession of 2001-2002 . . . In the current economic recession prices are receding and have likely peaked for the near term, but prices remained high well into 2008, partly due to exports.

6-year upturn in

prices

Prices trending downward

Another big element of downsizing:

Timberland Divestiture by U.S. Pulp & Paper Industry

• Over 35 million acres of industry land divested nationwide since the mid-1990s

• Driven by various forces (Debt, Tax Code, Ample Private Timber, Weak Demand)

• Land buyers are TIMOs, REITS & others

Divestiture of timberland by vertically integrated forest product companies resulted in huge shift of timberland ownership to TIMOs & REITs:

Source: Cliff Hickman, Forest Service Policy Analysis Staff, Wash. DC

NCREIF Timberland Index--Total Returns (4-qtr. Moving Avg.)

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NCREIF Timberland Index

Polynomial Trendline

Timberland total returns (annual timber and land value appreciation) collapsed in the 2001-2002 recession, amid industry divestment. Returns rebounded, but are recently slipping again . . .

Source: NCREIF (National Council of Real Estate Investment Fiduciaries) Timberland Index

Period of substantial industrytimberland divestment

Summary of pulp & paper market trends

1. U.S. pulp production peaked in the late 1990s, as paper and board output were impacted by industry globalization.

2. U.S. industry responded to the challenge of globalization with consolidation and downsizing; A weaker dollar and productivity gains helped close the trade gap by 2008.

3. Pulp, paper and board prices climbed from 2002 to 2008 but have likely peaked in the near term, with recession in industrial production and declining demand.

4. Longer-term impacts of land divestiture and downsizing are unclear, but markets are indicating generally lower timber and timberland prices for the near term.

Lumber & Wood panelsUpdate on>

Wood panel & lumber usage is tied to housing construction, so their markets are impacted by changes in housing demand . . .

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rSince 2005, the big change in lumber and wood panel demand was an end to the U.S. housing boom, dropping by 2008 to the lowest starts in more than 50 years . . .

Source: Data - U.S. Census Bureau

Single-family housing unit construction starts/year

Strong global forces were behind the credit boom and bust in U.S. housing demand.

“Governments and central banks around the world pursued policies that, with the benefit of hindsight, caused a huge global boom in credit, pushing up housing prices and financial markets to levels that defied gravity.”

Remarks by Treasury Secretary Timothy Geithner

Introducing the Financial Stability Plan

Tuesday, February 10, 2009

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Source: National Association of Realtors (NAR) – U.S. median sales price of existing homes2009(p) year/year data through January only

Consequences of “defying gravity” . . . After the credit boom drove up home prices, appreciation in existing home prices dropped in 2006. With this abrupt change in home equity appreciation much of the economic incentive to buy or build new homes suddenly evaporated.

PolynomialTrendline

Annual Change in Existing Home Sales PriceAnnual Change in Existing Home Sales Price

Median New Home Price (NAHB; Single-Family)

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U.S. Average Wage of Production Workers (BLS)

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Booming credit facilitated booming home prices, but average wage gains did not keep up with new home prices, so home affordability became a big issue . . . Even after recent declines in home prices the gains for home prices still far exceed gains in average earnings.

Up 72%

Up 55%

Source: NAHB and Census Bureau data

“Baby Boom” era

Ho

usin

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U.S. New Home Sales - Long History

Credit

Boom e

ra

The 90s - 2005 sales boom was the biggest ever! It was a driven by a global credit boom that kept

pushing home prices up (until 2006) It was distinct from earlier “baby boom” era

Past notable declines featured rising interest rates Interest rates today are low, but borrowing has collapsed The current collapse features declining home prices

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As the U.S. trade deficit expanded since the early 90s, billions of dollars came back from foreign sources into U.S. mortgage markets via foreign purchases of GNMA, FNMA & FHLMC agency bonds (and CDOs) that fund mortgages. This global credit boom helped facilitate the U.S. housing boom, but loose credit led to inflated home values and bad debts . . .

By 2008 global lines of housing credit were drying up and foreign bond holders cashing out . .

Foreign Purchases of U.S. Agency Bonds

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) U.S. Single-Family Housing Starts, SAAR

The credit-driven home building boom became a bubble that burst in 2006-2008 as home values declined. The downturn has continued since last June as credit dried up (now down 80% since the peak) and forecasters expect only a gradual recovery . . .

Sources: U.S. Census Bureau, Seasonally Adjusted Annual Rate (SAAR), by month

- - - - - -

- - - - Credit Boom Era - - -

- - - - - -

- - - - Housing C

ollapse (80% drop)

NAHB Forecasts

for 2009 & 2010

$

Without the lure of home equity gains new home sales collapsed in 2006-2008. The record housing construction boom became the housing bubble,

which is still undergoing its long correction.

A global credit boom drove home prices and latest housing boom, but wages did not keep pace and eventually home values declined.

What experts said last year about housing downturn and prospects for recovery . . .. . . (still relevant today)

“The housing boom was unprecedented in U.S. history, and the correction will be as well.”

Michael Youngblood, FBR Investment Management (CNN Money, June 12, 2008)

“. . . the housing correction, what's going on in the housing market, this is not over . . .”

Hank Paulson, U.S. Treasury Secretary (YouTube, February 12, 2008)

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The housing downturn has severely impacted lumber production in North America, and more so for Canada than USA (due to strong C$) . . .

Canadian Softwood Lumber Production

Billion Board Feet

Source: Statistics Canada

U.S. Softwood Lumber Production

Billion Board Feet

Source: WWPA

Down 28%

Down 32%

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Hardwood Lumber

Softwood Lumber

Impact on lumber prices . . .

Softwood Lumber Prices – Down 40%

Hardwood Lumber Prices – Down 14%

Market recovery hinges on recovery in housing

Sources: BLS (Bureau of Labor Statistics)

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Hardwood Logs

Softwood Logs

U.S. Delivered Log Price Trends (2001 – 2007) . . .

Log prices generally followed lumber prices, climbing to recent peaks in 2004-2005, but collapsing with the housing bust. The drop in log prices (-30% for softwood and -33% for hardwood from recent peaks) is now similar to the average drop in lumber prices.

Sources: BLS (Bureau of Labor Statistics)

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Canadian OSB Production Billion Sq Ft 3/8" Basis

North American OSB production was also crimped by the housing downturn, but higher U.S. exports helped sustain U.S. production while Canadian exports were crushed by a stronger Canadian $:

Source: APA – The Engineered Wood Assoc.

U.S. OSB Production Billion Sq Ft 3/8" Basis

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Source: FAS

U.S. OSB exports surged in 2007-2008, due to low prices and excess capacity, but a stronger U.S. dollar might dampen export growth . . .

Summary of trends in lumber and wood panel markets

1. U.S. lumber and wood panel demands follow housing construction for

obvious reasons (homes and furnishings are made of wood).

2. The U.S. housing market experienced a big collapse in demand, following

the recent credit boom and peaking of home prices.

3. Since 2005 the collapse in housing has changed the market situation for

lumber and wood panel products, with lower demand and prices.

4. An upturn in U.S. markets for lumber and wood panels hinges upon an

upturn in the housing market, the timing of which remains uncertain.

5. The weaker U.S. dollar is helping improve the U.S. wood trade balance,

but a stronger dollar in the past year raises doubts about trade.

General Summary:

Global shifts in trade, manufacturing and currency exchange values had big impacts on pulp, paper and board markets, leading to a big downshift in North American growth rates since the 1990s.

A credit boom from the early 90s to 2005 gave a big boost to housing (and to wood panel and lumber demand) but the credit boom led also to an unsustainable housing bubble and market bust.

Forest product markets were further impacted by the ongoing recession withdeclining growth and uncertain outlook for recovery.