November 28, 2019 / 11:12 AM / 15 days ago

Column: High-grade iron ore outperforms as China steel margins recover

LAUNCESTON, Australia (Reuters) - The premium Chinese steel mills are willing to pay for high-grade iron ore has widened in recent months, suggesting both a recovery in profitability and a desire to maximise output at blast furnaces.

Cranes unload coal from a cargo ship at a port in Lianyungang, Jiangsu province, China December 8, 2018. REUTERS/Stringer

Iron ore prices have fallen for the past two sessions, with declines on Wednesday linked to a sharp 9.9% drop in profits at China’s industrial companies, the fastest pace of contraction in eight months.

However, spot 62% iron ore for delivery to north China, as assessed by commodity price reporting agency Argus, is still up 10.2% from the 10-month low of $78.15 a tonne on Nov. 11, ending on Wednesday at $86.10.

The 62% grade is the iron ore benchmark and the main grade exported by Australia’s top producer, Rio Tinto.

While 62% iron ore has performed well in recent weeks, the higher quality 65% ore has done even better, rising 12.4% from its low on Nov. 11 to Wednesday’s close at $99.55 a tonne.

At Wednesday’s close, 65% ore was trading at a premium of 15.6% to the 62% grade, wider than the 13.4% premium when both grades were at their recent Nov. 11 lows.

When iron ore prices peaked this year in early July, 65% ore commanded a premium of just 6.6% over the 62% grade.

Higher iron ore prices are an incentive for Chinese steel mills to switch to lower grades as it reduces input costs and results in lower steel output, which may serve to bolster prices for the metal.

It’s also no surprise that steel mills appear to be favouring higher grade ore as their profit margins have also been recovering in recent weeks.

Analysis by S&P Global Platts showed that domestic margins for Chinese makers of hot-rolled coil have surged 350% so far in November, from $11.94 a tonne at the start of the month to $53.58 by Nov. 26.

The profit on rebar climbed 79% to $101.77 a tonne on Nov. 26, Platts said in the report.

Part of the recovery in margins was likely because of falling iron ore prices in the first part of November. Platts also said that demand for steel for construction has remained robust, and is also recovering for manufacturing.

WINTER POLLUTION

Beijing’s imposition of winter pollution curbs may limit some demand for iron ore, but also encourage a move to higher grades as mills seek to maximise the output of blast furnaces.

By using higher grade ore a mill can produce more steel for the same amount of emissions than it can using lower grade ore.

If steel margins remain robust, it’s likely that iron ore imports will similarly show resilience, especially if steel mills engage in their usual practice of re-stocking ahead of the Lunar New Year holiday, which falls in late January next year.

The wild card is what may happen, or not happen, with the trade talks between the United States and China.

Even a partial resolution to the 16-month-old trade dispute would be viewed as a bullish signal for the Chinese economy, while another failure and escalation of tariffs would likely put downward pressure on steel and iron ore prices.

The opinions expressed here are those of the author, a columnist for Reuters. 

Editing by Tom Hogue

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