World Economy

Collapsing Steel Prices to Affect Iron Ore Market

Collapsing Steel Prices to Affect Iron Ore MarketCollapsing Steel Prices to Affect Iron Ore Market

Everyone knew this was going to be a difficult year in the iron ore market. Expansions by existing producers such as Rio Tinto and BHP Billiton and ramp-ups by newer players in Australia and West Africa, were widely expected to generate a wall of supply in the sea-borne market.

The timing was always going to be problematic, given the equally widely expected slowdown in China, the world's biggest buyer of iron ore, TradeArabia quoted Reuters as saying.

The combination of supply surge and slowing demand growth has already unleashed a battle for survival among iron ore producers. The latest victim of this brutal new iron age is fledgling Australian producer, Western Desert Resources, which has just gone into administration.

But at least Chinese steel production has been growing, even if the rate of growth has braked sharply to 2.7 percent in the first seven months of 2014 from 12.1 percent in the year-earlier period.

However, it is getting harder to ignore the building pressures in the Chinese steel sector and the rising risk of some sort of demand shock along the raw materials chain.

Building Pressures

The surest sign of tension in China's massive steel market is the steady decline in domestic prices. On the Shanghai Futures Exchange (SHFE), the most active steel rebar contract slumped to another record low last week, extending a price decline that has run uninterrupted since the beginning of August.

The SHFE's hot rolled coil (HRC) futures contract has fared no better, also closing the week at its lowest level since it was launched in April this year.

The two Shanghai steel contracts have tracked each other closely since April, while rebar has fared significantly worse. That's a clue as to what lies behind this accumulating price implosion, since rebar is the form of steel most widely used in construction. Property sales and new starts have both been falling across China with no end in sight to the downturn. 

Local governments have been quietly easing previous restrictions on property purchases and the central government continues to drive investment into affordable housing, but neither is sufficient to offset the profound malaise in China's previously white-hot construction sector.

The fact that HRC prices are also falling, even if not as fast, suggests that steel demand weakness is spreading into the broader manufacturing sector.

That chimes with the latest purchasing managers indices. Both official and unofficial surveys for August painted a worrying picture of deceleration in the engine-room of global manufacturing.