* China's CISA poised to reject 33 pct iron ore price cut
* POSCO, No. 4 steelmaker, set to accept Rio, Nippon deal
* Analysts divided: will benchmark system bend or break?
* BHP boss warns Chinese demand inflated on stockbuilding
By Alfred Cang and Miyoung Kim
SHANGHAI/SEOUL, May 27 China rejected on
Wednesday a 33 percent cut in iron ore prices agreed a day ago
by Japanese steelmakers, while No.4 global mill POSCO prepared
to accept the deal, highlighting the growing schism that has
emerged in a single benchmark system.
While both moves were widely expected, they emphasise the
rising strain on the iron ore market's 40-year-old annual
pricing system, which has begun to fray as more Chinese mills
and big miners tentatively embrace a shift toward market
pricing that would better reflect fundamentals and allow them
to hedge costs.
China's insistence on a big cut of more than 40 percent --
effectively reversing last year's surge after six years of
gains -- threatens to scupper the system, which would normally
dictate that Tuesday's deal between Rio Tinto (RIO.L) (RIO.AX)
and Nippon Steel (5401.T) sets the basis price for the global
South Korea's POSCO (005490.KS) will accept the same deal,
sources said on Wednesday, following its Japanese peers as is
the usual practice, but undercutting Chinese steelmakers who
are looking for allies to hold out for cheaper rates.
The focus is now on whether China -- whose iron ore imports
have more than quadrupled since 2002, when prices rose by
almost the same -- holds the line at the risk of being forced
to buy its imports on the spot market, or strikes a compromise
that leaves the annual benchmark system intact for another
"The acceptance of the reference price in China remains the
main uncertainty and in this respect the settlement has indeed
surprised us and will be a test to the benchmark mechanism,"
Credit Suisse analyst Roger Downey said.
Even if Asian mills stick to the traditional benchmark,
China's absence will seriously weaken the system.
An industry source said the China Iron and Steel
Association, the industry group that represents the country's
major mills, will issue a statement on the rejection as soon as
Wednesday and say it plans to continue negotiating.
The chief executive of BHP, which has led miners' move to
switch to the spot market, on Wednesday appeared to be ready to
offer a compromise, saying China's demand may not be
sustainable and the picture for global demand was also unclear.
"We have some residual concern in the very short term that
there may have been some overbuying in anticipation of the
stimulus package, which may have led to some stockbuild ahead
of real demand," he told a conference on Wednesday.
"Importantly, in the medium term we don't expect a sharp
rebound in overall economic activity; in fact, we probably
believe that economic recovery will be both slow and
protracted." Despite Chinese mills' initial alarm and the
growing ranks of rivals conceding to Rio's price, analysts
expect them to continue seeking an even bigger cut because they
are not under great pressure, since China is awash with iron
ore stockpiles after importing record amounts of ore for three
CHEAPER ON THE SPOT
China is now weighing whether it is better to accept the
deal to secure stable long-term supply of iron ore or switch to
spot markets which offer better pricing to benchmark deals,
sacrificing the supply security that underpins annual deals.
Rio's settlement of 97 U.S. cents per dry metric tonne unit
is equivalent to $61 a tonne, while spot Australian fines are
sold at a cheaper $53 a tonne in China, traders said.
Many analysts say China, which depends on imports more than
ever due to falling domestic production from high-cost mines,
could find the logistics challenging for a complete switch to
the spot market, besides running the risk of greater price
volatility for its mills.
Chinese mills may adopt a hybrid system, which could, for
example, allow them to take a bigger 40 percent cut, but if the
spot market moves above a certain threshold the discount is
reduced. For a scenarios of what Chinese mills face,
"Ensuring security of supply by following the benchmark
might now makes more sense than risking full exposure to the
spot market," Goldman Sachs JBWere analyst Malcolm Southwood
One Chinese steel executive said the Chinese mill keenest
on benchmark pricing was national champion Baosteel
(600019.SS), which this year yielded to CISA its traditional
role of leading the talks with miners Rio, its Anglo-Australian
rival BHP Billiton (BHP.AX) (BLT.L) and Vale (VALE5.SA) of
CISA, which has stressed the need to reduce China's massive
steel overcapacity, may want to spend more time to balance the
pros and cons of switching to a more flexible system, favoured
by small-sized mills, away from the benchmark system.
The cloudy outlook for China's economy has worsened the
deadlock with iron ore mines, since both sides can call on data
which shows either a massive oversupply of iron ore or a
healthy market that is recovering well from a dip a few months
"For this year and next, supply of iron ore will outstrip
demand and nothing bad will happen if the Chinese side doesn't
sign anything," said Zhang Changan, consultant with World Steel
Dynamics in Beijing, who expects China to hold to its original
But the Goldman Sachs analyst sounded a note of caution.
"Certainly we find it hard to envisage the miners conceding
a larger contract price fall to the Chinese given that the
current robustness of steel production in China compared with
Japan," said Southwood.
(Additional reporting by Tom Miles in SHANGHAI; Editing by