Chart Of The Day: Don't Panic About The Fall In Iron Ore

There has been a lot of talk about this week’s 10% fall in the price of iron ore, and given that Deloitte Access Economics says that each $1 fall in the price drops Federal Budget revenues by $300 million, concerns are high about the impact on Australia.

But ANZ’s Head of Commodity Strategy Mark Pervan says it is to early to panic:

Heightened speculative activity in Chinese steel prices has accentuated the iron ore price declines and while sentiment remains weak, we can’t discount further price falls. We think it’s too early to revise our price forecasts, particularly in light of the volatile nature of iron ore trading, and because of an approaching expected lift in seasonal demand.

Interestingly, Pervan says that it’s the Chinese banks that triggered the big moves this week, by conducting a round of collateral calls on loans outstanding to Steel Mills, requiring repayments of 20% of outstanding debt.

This has the impact of reducing leverage available to the Steel Mills, which has triggered the selling in Rebar Steel and iron ore.

But once this initial selling or liquidation phase is done, the impetus for further losses disappears.

ANZ says its too early to make a call on the longevity of this recent move. But it highlights that seasonality has played a roll in the build up of inventories, and will play a roll in price stabilisation in the months ahead.

Chinese steel stocks have been building for the past two months ahead of the Q2 construction season – a key reason for the steel price drop. As demand increases (the government has recently reconfirmed its 2014 GDP growth target of 7.5%), steel stocks will decline and steel prices should recover. Medium term, the ability for the Chinese consumers to stay out of the market for too long is limited. Steel mills have an extremely high dependency on iron ore imports, with 75% of demand met by seaborne supply.

So the message is: Don’t panic and fingers crossed this week’s losses might be about it, with a recovery on the way.

Joe Hockey and the Treasury department will be watching closely.

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