The ferrous complex was mixed again on September 13, 2021 as spot fell sharply, paper held on and steel bounced hard:
There were more rumours of production cuts in steel mills for the rest of this year. I expect these cuts to be permanent. Or, at least until the panic sets in over growth.
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Below is a story I’ve written for News today:
Markets have been discounting a fall in iron ore prices for much of 2021 by refusing to discount astronomical prices into mining equities.
Now that the iron ore price has been smashed 42%, Australian miners are generally faring much better than the underlying price, suggesting that we are somewhere near the bottom for iron ore.
Is the market still right? Very likely not. The problem is threefold.
We know why the iron ore price is being belted. Chinese consumption of steel is slowing very fast as its property development market goes bust. There is little sign that this is about to end and demand from this segment will fall materially further.
Given Chinese empty apartment construction constitutes nearly half of Chinese steel demand (and therefore about one-third of global seaborne demand for iron ore), weakness in this market is all that matters.
Second, this weakening demand is being jammed upstream into raw materials prices more quickly than usual by mandated steel production cuts in China. There is no end in sight to this policy, either.
Third, despite a grand pretense by major global miners, iron ore supply is rising short and long term and will continue to do so for many years to come.
The conclusion, then, is that there is too much iron ore. The market has swung to a glut and excess production must be cleared.
The last four months of Chinese property starts are down 10% year on year and getting worse. This scale of downdraft would equal a drop in steel output of 45mt and roughly 70mt less iron ore in the year ahead.
Added supply over the next year is 60mt so there’s a big swing to surplus in the range of 130mt.
When these kinds of conditions prevail in commodity markets the outcome is easy to predict. The price must fall to the highest marginal cost producer in the Chinese and seaborne markets. That is, the most expensive producer of iron ore must be rendered uneconomic to stop its output and reduce supply, in the process stabilising prices.
We can estimate this marginal cost price of seaborne iron ore by looking at what is called the mining cost curve, which measures the relative price of extraction for everybody in the market:
As you can see, there is nobody that produces seaborne iron ore for more than $90 per tonne. So to knock the most expensive supply out of the market we’ll need a price of $80. To knock out $100mt, the price will need to be more like $60.
There is also Chinese iron ore to consider. It is expensive and poor quality so it will be knocked out by cheaper imports in any glut as well. But there’s simply not that much of it. China could knock out perhaps 40mt of production if it wanted to, which is probably doesn’t so may support it with tariffs:
So that may slow the price descent a little much it’s unlikely to be enough.
There is another factor to consider too. As prices rise so do extraction costs as royalties, taxes and expansions lift. When prices sink, these costs drop so the cost curve starts to fall as well. That is, the process is pro-cyclical so that means more downside.
In conclusion, the iron ore price is likely to keep falling for many months yet. And China appears to be determined to push it forward at all speed.
My best guess is we’re going to see $100 before this year is over and $60 in 2022.
If Bejing doesn’t rescue its property development market with stimulus at all this time (which is a big “if” given its GDP growth fall away to 4% and below) then all bets are off for bowel shaking iron ore lows.