Iron ore’s face-ripping rally might be partly explained by plans for a flower show.
Yesterday’s gain of $9.99, or 18.6%, to $63.74 per tonne, was the biggest one-day gain the commodity has recorded in either percentage or dollar terms. The chart is astonishing:
The rally that gathered pace last week put a rocket under mining stocks on the ASX yesterday, with Fortescue gaining 20%. After the surge in iron ore prices there could be further gains today.
Even optimistic forecasters see an iron ore price of around $US50 per tonne in 2016. Australia’s budget projections are built on the assumption of a $US39 price through the year.
So what gives?
A few factors are conspiring to lift prices right now, and most commentators are expecting the price to crash back down to more recent levels eventually. But in summary:
- Steel prices in China are climbing ahead of the construction season, leading to a surge in demand for iron ore;
- The traditional restocking after Chinese New Year lifted the iron ore price somewhat in February but uncertainty about demand has kept it subdued until now, so the restocking element is still in play, and
- A major steel producing city in the northern province of Hebei, Tangshan, will host the 2016 international horticultural exposition from late April through to October 16 this year, and authorities want to deliver a smog-free environment for visitors.
Another way to look at it: iron ore prices are going nuts because of a flower show.
Chinese authorities have become acutely sensitive about air quality in major cities. Reuters reported that authorities were “expected to order steel mills in the region to slash production to reduce air pollution, and producers are expected to increase output ahead of the event”.
So Tangshan steel makers are buying like crazy now before they are shut down. For the flower show. Here’s a promotional video for the event:
This has happened before. In the middle of last year, iron ore prices staged a rally of 25% or more on rumours that Beijing was ordering steel mills to cease production to clear the air ahead of a parade to commemorate the 70th anniversary of the end of WWII.
Of course the Tangshan shutdown, if it really is driving this current surge in demand, can’t last. Credit Suisse sees prices remaining elevated for some time — but then crashing later in the year to new record lows.
In a note to clients yesterday, Credit Suisse’s analyst Matthew Hope wrote (our emphasis added):
We expected the seasonal factors – an end of destocking, the beginning of restocking for the construction season, together with weaker iron ore supply on Brazilian and Australian wet seasons, but we were not looking for steel prices to climb. The iron ore price rally is therefore looking stronger than we anticipated.
We expect the seasonal factors will see iron ore price fall in 2H16 to $35/t, and we don’t expect the steel price involvement will alter that. Steel prices have climbed as the downside was overdone late last year, causing output to fall and reducing stocks. As steel traders have begun to buy ahead of the construction season, steel supply in China has tightened and prices are climbing. But we expect the tightness will be unwound over 2Q as blast furnaces are restarting, and steel producers migrating towards using higher grade ore to improve output. So steel supply should lift, but we expect demand will remain weak. Without a big infrastructure stimulus or recovery of construction, then the demand side for steel will be missing. The steel price should fade in 2H.
While we see iron ore prices falling 2H16, that does not apply to 2Q16. There remains potential upside in iron ore prices in 2Q so short positions could be squeezed. Construction season has barely started. China’s peak steel output within any year is generally in the March-to-May period, so we may yet see more tightness.
The outlook remains volatile. Macquarie, it’s worth noting, predicted a rally in iron ore prices based on a surge in steel prices. They’re calling for $US50 a tonne through the year.