Iron ore is a major raw material used to create steel. Therefore, demand for this raw material by the steel industry plays a major role in determining prices. Internationally, iron ore prices are largely determined by the Chinese because they are the largest consumer of iron ore in the world. China accounts for more than 60% of the seaborne iron ore trade.
The flagging demand for iron ore from China in the wake of an economic slowdown has put downward pressure on iron ore prices. According to data from China’s National Bureau of Statistics, growth in investment, factory output and retail sales has slowed to multi-year lows in the first two months of the year. A Chinese government crackdown on polluting steel plants has forced many of them to shut down. In addition, tightening of credit by Chinese banks to steel mills that are not performing well, will negatively impact these mills’ prospects. Furthermore, the Chinese leadership has proposed structural reforms of the economy, shifting the emphasis from investment and export driven growth to services and consumption led growth. Such a transformation of the Chinese economy may negatively impact Chinese demand for steel in the long term. Chinese steel demand growth is expected to slow to 3% and 2.7% in 2014 and 2015 respectively, from 6.1% in 2013. Weak demand for steel has indirectly resulted in weak demand for iron ore as well as metallurgical coal.
On the supply side for iron ore, expansion in production by majors such as Rio Tinto and BHP Billiton has created an oversupply situation. A combination of weak demand and oversupply is likely to result in lower iron ore prices in the near term. Lower iron ore prices will impact smaller mining companies much more than the major mining companies. It appears that the price of iron ore is being manipulated in favour of larger producers. This is due to the smaller company’s higher cost of production of per ton, as compared Rio Tinto and BHP who have lower prices. Iron ore spot prices stood at $92.74 per dry metric ton (dmt) at the end of June 2014, about 19.2% lower than a year ago. The outlook on iron ore prices remains bleak in the near term, in view of the oversupply situation.
It’s not surprising that so many Chinese producers are being forced to close up shop. According to data supplied by Bloomberg, around 80% of China’s mines have operating costs of around $80 to $90 per ton. In comparison, BHP Billiton, and Rio Tinto produce ore at around $53, $68, and $44 per ton respectively.
But it is not just BHP ramping up supply — Rio Tinto and Vale are also ramping up output, compounding the supply problem.
BHP Billiton is increasing output by 260 million to 270 million tonnes from a 217 million tonne target in 2014, and Rio Tinto is on track to produce 295 million tonnes of ore this year, up from 266 million last year.
Jessica R // Editor SMC