--Clyde Russell is a Reuters market analyst. The views
expressed are his own.--
By Clyde Russell
LAUNCESTON, Australia, Jan 21 If you want to see
why Chinese steelmakers are feeling the pinch, a graph showing
steel prices against those for Asian iron ore provides an easy
Benchmark Shanghai steel rebar fell to a record low
of 3,408 yuan ($560) a tonne on Jan. 21, continuing a weak start
But the real story for the Chinese steel sector is that
prices have lost ground every year for the last four, falling a
total of 36 percent from the end of 2009 to the end of last
In contrast, spot iron ore prices gained in
two of the previous four years and are cumulatively up 13.5
percent over the period.
Iron ore has weakened recently, hitting a six-month low of
$124.80 a tonne on Jan. 20, but the simple truth is that you'd
rather be a low-cost iron ore producer than a Chinese steel
China's steel industry is battling to make profits, with the
number of loss-making companies rising to 20 in November from 18
the prior month, according to data from the China Iron & Steel
Association (CISA), which represents more than 80 major
producers that account for about 80 percent of the nation's
The current poor profitability at mills follows a disastrous
2012, when profits fell 98 percent from the prior year and CISA
said its members' combined profits were 1.6 billion yuan, a
paltry amount for the world's biggest steel producer.
It seems unsustainable for the industry to continue to make
losses, especially if the cost of a major input such as iron ore
manages to keep increasing in price over the longer term.
The question is how is the situation likely to resolve
itself, and the answer is likely a combination of factors will
come into play.
The first is that Chinese steel output will grow modestly in
2014, with CISA estimating a 3.1 percent gain to 810 million
tonnes, down from the 8.2 percent increase in 2013.
Secondly, excess capacity may start to be cut, with plans to
close older and more polluting mills gaining pace in recent
The government announced plans in October last year to
reduce steel capacity by 100 million tonnes by end-2015, and
Hebei province, the biggest steel-making region, aims to cut 15
million tonnes of steel output this year.
These cuts may not be enough by themselves to tighten
China's steel markets significantly, but they will make a dent
in the surplus of product, and this may lead to more stable
Steel demand is also likely to grow in 2014, and may even
expand at a faster pace than output, especially if
steel-intensive industries such as rail investment continue at
anything like the 24.5 percent on-year increase recorded in
SUPPLY, STOCKS KEY FOR IRON ORE
For iron ore, 2014 may finally be the year when additional
supply weighs on the market.
This was expected last year, but China's 10 percent surge in
imports to a record 820 million tonnes was enough to keep prices
While imports are likely to rise again in 2014, the pace of
growth should slacken to become more closely aligned with the
rate of steel output growth.
However, this doesn't necessarily mean iron ore prices will
decline substantially as major producers may choose not to
utilise all their additional capacity.
This is especially the case for the top producers in the
iron ore belt of Western Australia state, Rio Tinto and
While iron ore prices are likely to continue to soften into
the Lunar new year holidays at the end of this month, it's also
likely they will recover thereafter.
Spot iron ore prices are declining currently as China's port
stocks are ample at around 88.5 million tonnes, a figure that
ANZ Banking Group's commodity research team points out is almost
19 million tonnes higher than at the same time last year.
Inventories are currently being run down, meaning steel
mills are likely to be more active buyers after the week-long
Certainly, the iron ore swaps curve in Singapore
isn't signalling that prices will decline significantly.
The six-month contract is currently 9.1 percent below the
front-month, slightly wider than the 8.1 percent that prevailed
when the current downturn in prices started early in December.
The steeper the backwardation, the more likely prices will
continue to weaken, so the curve is pointing to further
weakness, but not a collapse.
In contrast, the curve tends to flatten and may even move
into contango just prior to rallies, as happened in June last
year, when the six-month contract was just 1.7 percent below the
It's too early to say whether steel prices can outperform
those for iron ore in 2014, but if the Chinese can reduce
capacity, even moderate demand growth should result in a
positive year for prices.