Commodities | Mar 17 2009
By Chris Shaw
Iron ore price contracts are set according to the Japanese financial year, which runs from April 1st to March 31st each year. With the new financial year fast approaching iron ore miners and steel producers are in the middle of negotiations for new contract prices. In the view of Standard Chartered while the balance of power currently favours the steelmakers the negotiation process is likely to be a lengthy one.
These annual negotiations are always a difficult process and this year the uncertain global economic outlook and the recent volatility in both steel and iron ore prices makes the process even more difficult, especially following on from the substantial price increases the miners achieved last year.
While the current contract ends on March 31st negotiations are expected to drag on well past this date, Standard Chartered pointing out this adds to the pressure as until new contracts are made the miners will expect the steelmakers to continue paying the same price as last year’s contracts.
But short-term the conditions favour the steel producers in the group’s view as demand for iron ore is expected to weaken further and not pick up until mid-year when the Chinese stimulus package really kicks in with respect to construction activity. Medium-term any recovery in demand plays into the hands of the miners, which explains why the analysts expect negotiations will take some time.
In terms of the actual market, year-to-date there have been modest increases in iron ore spot prices delivered into China. Standard Chartered points out this has reflected a tightening in freight markets and a tightening market for raw materials generally, but the most recent data suggest this trend is not sustainable as delivered prices have again fallen in recent weeks.
The spot price gains have also mirrored improved levels of steel production in China in the past couple of months, which the group suggests was the result of producers moving to rebuild their supplies ahead of the introduction of the government’s fiscal stimulus package in coming months.
This re-stocking has come at the same time as there has been weak end-use demand, meaning the re-stocking process has simply generated a large increase in unsold inventories. At the same time, Chinese port stocks are rising. They have now increased from a low of 58.1 million tonnes in mid-February to 60.1 million tonnes in early March, which equates to around two months worth of import volumes.
The problem is further stocks are due to arrive in China in late March/early April, which will lift stockpiles and put downward pressure on steel prices. Industry group Steel Business Briefing estimates hot rolled coil prices in Shanghai are likely to fall by 14% month-on-month in March as a result of the increase in inventories.
In terms of the contract negotiations, Standard Chartered notes recent comments by miners suggest they are seeking price increases of around 5% for contracts in the coming year, while the steel producers are fighting for cuts of 30-50%. Standard Chartered expects the final price will be somewhere in the middle and sees a price fall of about 20% as most likely, which would be the first fall in seven years.
An important point to be considered in the negotiations is the weakness in the Australian dollar and the Brazilian real in recent months, as the analysts point out this means the miners could accept significant contract price cuts in US dollar terms while still maintaining their local currency revenues.
This should further complicate the negotiation process and supports the analysts’ view the process will take some time to be concluded.