Why Have Iron Ore Prices Rallied Even In An Environment of Steel Production Curtailment

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China is the world’s largest producer and importer of steel and iron ore, respectively. Hence, China’s approach towards its steel production materially impacts global steel and iron ore prices. The Chinese government has enforced steel capacity cutbacks ahead of the winter months in order to reduce the detrimental impact of industrial production in the environment. The fall in steel output should ideally put a downward pressure on iron ore prices, which is a primary raw material used in steel production. However, the prevalent demand-supply dynamics of steel and iron ore in the Chinese economy has helped iron prices to rebound in November.

(Source: Market Index, NYMEX traded 62% Fe content, CFR China in $ per Mt)

S&P Global Platts estimates China’s steel production to be cut by around 33 million Mt between mid-November and the end of March 2018. [1] The demand for steel, however, in the Chinese economy has remained intact, putting an upward pressure on its prices. Inventory volume of rebar (steel product used for construction), for example, fell to 3.35 million tons, the lowest in 6 years. [2] The increase in steel prices has enabled steel producers to increase their margins on steel products.

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Owing to the increase in steel prices, iron ore producers in the seaborne market are demanding higher prices for their product which has led to a rebound of iron ore prices. Additionally, the shift in preference of Chinese steel producers to highly efficient superior grade iron ore, has pushed up prices for iron ore with greater Fe content (greater than 60%). These high grade iron ore mines are in the possession of iron ore giants namely, Vale, BHP, and Rio, which would prove to be beneficial for them in the upcoming quarters.

However, this trend of high iron ore prices will most likely not sustain in the long term as global supply of iron ore is expected to increase significantly in 2018. Brazil alone, is expected to export 403 million tons of iron ore (5% Y-O-Y increase), mainly supported by the ongoing ramp up of Vale’s S11D mine. [3] This would, in turn, create a downward pressure on the revenues of seaborne iron ore players. These developments would be largely dependent on China’s effectiveness towards its industrial production ban and we wait to see how the actual figures measure up.

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Notes:

1) The purpose of these analyses is to help readers focus on a few important things. We hope such communication sparks thinking, and encourages readers to comment and ask questions on the comment section, or email content@trefis.com
2) Figures mentioned are approximate values to help our readers remember the key concepts more intuitively. For precise figures, please refer to our complete analysis for Vale
Notes:
  1. China steel prices to fall on inadequate winter output cuts: Wood Mac, S&P Global Plants []
  2. China steel futures rise, pulling iron ore, coal higher, Reuters []
  3. Resources and Energy Quarterly Report, Dept of innovation, industry and science, Australian Government []