Steel Could Be the Next Victim

"We would expect supply-demand conditions for steel products to soften if the global economy grows slower than we forecast," writes Atsushi Yamaguchi, an analyst at UBS in Tokyo. "In addition, sharp appreciation of the yen could worsen earnings at customer companies" and thus decrease demand for steel.

Despite forecasting higher steel prices, Sean Darby, chief Asia strategist at Nomura Bank in Hong Kong concurs with the risks and says that commodity prices are already highly volatile and trading well above their five-year averages. While demand has been firm in 2006, "commodity markets had received a significant inflow of money from funds that were highly leveraged to the yen carry trade," he writes Tuesday. "Investors need to be aware central banks will continue to tighten through 2007."

Steel's bulls and bears do agree that global interest rate hikes are coming. If the price of steel continues to climb, then a large segment of manufacturing becomes more expensive, potentially resulting in higher consumer price inflation as producers seek to pass along the price hikes. But those who see the price of steel as already overvalued also see this as a consequence of overheated emerging-market economies, which are overdue for interest rate hikes.

"Both China and India have not raised interest rates sufficiently to cool their economies, while infrastructure project demand is still germinating," says Darby.