Until 2008 most iron ore was priced by negotiation between the seller and buyer. Contracts were typically for 12 months. As Chinese demand outstripped contracted supply, it began buying ore from India on a spot basis.

Chinese companies then discovered that many contracts were for significantly higher prices than they paid for spot. Contracts were abandoned or not renewed and soon all iron ore was purchased at the spot price.

Spot prices are calculated and published daily by several organisation such as Metal Bulletin, Platts and The Steel Index. Derivative markets were also developed, first in Singapore (on the SGX) and then China (Dalian Commodities Exchange) and the US (Chicago Commodities Exchange).

Today, iron ore is priced at a discount or premium to a standard 62% iron ore fines index. The Metal Bulletin 62% index (MBIOI-62) has a base of 62%Fe, 3.5% silica, 2.0% alumina, 0.1% phosphorous, 0.02$ sulphur, 4.7% LOI, 8.0% moisture and size of >90% <6.3mm. Metal Bulletin has a total of 7 other iron ore indexes for lower and higher grades, published daily or weekly.

The chart below shows the price of three indices for the past year.

Iron ore price change

It can be seen that both the discount for lower quality ore, and the premium for higher quality, have been increasing. This is due to the Chinese market increasingly desiring a higher quality ore that is less polluting and lower cost to treat.

The trend towards high grade ores is expected to continue. This will continue to pressure companies such as Fortescue Metals Group Limited, which received 65% of the Platts 62% index during the March quarter. However, Fortescue has very low costs, with C1 (net direct cash cost) around USD12/wet metric tonne, and remains profitable. It had an EBITDA of USD24/dmt for 1HY18.

Other lower grade producers are not in such good shape. In Western Australia around 25 million tonnes of sub 62%  annual production has been, or is likely to be, closed.

It is a new world for iron ore, where strong demand for high grade ores is expected to continue. However, this market may move into deficit as more mills seek the higher grade product. This is good news for existing high grade producers and potential new entrants such as Northam Iron Limited (unlisted). Northam has a large, coarsely crystalline magnetite resource that may be capable of producing a +68%Fe product.

Future prices largely depend upon Chinese steel demand. In 2017 real estate and infrastructure were the two main demand drivers. Continued growth in these sectors will be bullish for iron ore.

 

 

 

 

 

14 May 2018 Commodities