Rio’s Chinese Contracts Reflect Lower Iron Ore Spot Prices
Image Source: Rio Tinto
The world number two iron ore miner, Rio Tinto (NYSE:RIO) will cut its existing iron prices for the Chinese steel mills by 2-3% for the third quarter. The new pricing will put Rio’s 62% Pilbara Blend fines at $168.85 per tonne for the Q3 compared to $171.35 during Q2, 2011. We estimate that during 2011, the average realized iron ore price for Rio Tinto will be around the $100 per tonne. [1] We currently expect that average price will continue increasing through 2012 and then decline thereafter, which would impact Rio as well as competitors like BHP Billiton (NYSE:BHP), Vale (NYSE:VALE) and Cliffs Natural Resources (NYSE: CLF).
An official who buys the ore for a steel mill in China confirmed that the Rio Tinto has sent them the revised pricing details on Wednesday. The marginal price cut is in line with the decline in the spot market prices of iron ore, which is primarily used in making steel. Currently the global miners have been using the spot values of iron ore for setting the quarterly contract rates.
Rio Tinto, BHP Billiton and Vale, who put together control 40% of the iron ore market, dumped the 40 year old annual contract system in favor of setting the contract price on a quarterly basis in order to capture the sharp price movements in the market. Vale and BHP Billiton are expected to follow the suit and may revise the iron ore prices shortly. The pricing for the quarterly contracts is based on the average index prices over a three month period, ending a month before the start of a new quarter. Platts, The Steel Index and Metal Bulletin are the major index price providers.
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The prices for iron ore rallied in 2010 jumping close to 20%. This run fizzled out after the Chinese demand for the ore declined in February this year leading to just a 1% increase in the prices this year. We expect the Chinese iron imports to fall further as country has already taken steps to increase its domestic iron ore production. While this could dip in spot prices could be short-term, downside risk remains if prices stay lower for an extended period of time leading to bigger price cuts in future contracts.
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Notes:- Rio Tinto cuts Q3 iron ore prices as spot drops, Reuters [↩]