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Chinese steel rise bodes well for iron ore

Citation: Date:2017-7-21 16:57:18

Chinese steel mills could be about to up production this quarter, taking advantage of favourable margins and, in the process, increasing their intake of iron ore.
As the iron price has been climbing down from its March high of US$94.5 per tonne, the profitability of Chinese steel mills has been moving the other way since May,

according to RBC Capital Market (see graph).

Even though the iron ore price has recently stabilised and risen to a level closer to $70/t, there has been a decoupling between the ore price and what Chinese mills

and traders are able to sell their steel for.

This decoupling has been “influenced by macro forces as well as the destocking and supply”, RBC Capital Markets said.

Higher than expected GDP figures out of China have been well documented, but the reduction in stocks of Chinese rebar, a core component of construction projects, to their lowest seasonally-adjusted levels in eight years has also had an impact, according to RBC.
While Beijing has said publicly it plans to cut steel production, this decoupling opens up an opportunity Chinese steel mills are unlikely to turn down.

“In Q3 (September quarter), we expect a restocking will commence as steel mills increase production to take advantage of the higher margins,” RBC said.

“This should provide a mid-year raw material restocking cycle which, if combined with any shift in the macro environment, should see prices move higher.”

This has got the bank thinking very constructively about the iron ore price over the near and long term.

“With a significant amount of port inventories being lower-grade iron ore, and the potential for traders to close shorts and potentially reverse positioning, we remain very constructive on the iron ore price and the iron ore equities,” RBC said.

RBC thinks the price could average at $70/t for the remainder of the year, which would make the overall 2017 average $73/t. This is a long way from the sub-$60/t level many banks were forecasting at the start of the year.

In 2018, the bank is also guiding for an average price of $65/t.

“Beyond this, with such low expansion capital spending in the majors, the long-lead times for infrastructure to access scalable resources and a broadening of steel demand globally into more emerging markets, there is significant upside risk to our long-term prices,” RBC said.