Iron ore: who’s supplying the restock?

Steel and iron ore fundamentals in China took a turn for the worse in 3Q asthe impact of a weaker property market and relatively muted stimulusmeasures put pressure on demand. The outlook for 4Q looks modestly betterand in this report we update our quarterly models and run through theassumptions behind our thinking. We find that while there is still room for anupward move in iron ore into year end, the case for a strong restocking drivenprice rally is much less compelling than in previous years and dependsheavily on where mills source the material for their restocking.

    Latest news.

    Wednesday was another dramatic day for financial and commoditymarkets. Further falls in global equity prices, with fragile sentiment nothelped by signs of global deflation and weaker US economic data, sawinvestors flee for the safe-haven of government bonds. The yield on 10yrTreasuries, the global benchmark, at one point fell below 1.9% and stayedaround 2.0%, its lowest since May 2013. Gold also moved higher, up0.2% on the fix but more in later trading. Most metals had substantiallosses, the worst hit being nickel, down 3.2%, zinc 2.9%, copper 2.5% (allLME cash prices) and palladium, which was off 3.2% (again post-fix).

    Japanese port aluminium stocks posted another monthly increase inSeptember, making six consecutive months of growth. Total stocks fromthe port monitored totalled 397kt, up 27.2kt from the previous month andup 38% YoY. Stocks at Nagoya displayed the largest build, with inventoryby the end of September at 141.7kt, up 13.3kt compared with August or10.4% MoM. Despite relative softness in the Asian physical market, majorJapanese producers have settled deals for 4Q aluminium premium (MJP)at $420/t CIF Japanese port, which is up about 4% QoQ.

    Rio Tinto released 3Q production results on Wednesday. Iron ore sales of78mt were 3.1% below our forecast. As a result, if IOC volumes remain flat,this implies Rio’s Pilbara operations must run at an annualised rate of~300mtpa in 4Q to meet full year guidance. Meanwhile, managementseemingly now expects volumes to come in “at” rather “over” 330mt.

    Meanwhile, Rio upgraded full-year mined copper guidance by 5% to 615kt,helped by strong performance at Escondida though Oyu Tolgoi expectationswere cut once again. Also, Rio continues to switch coking coal material fromits Hail Creek mine into the thermal market, though on our calculations themargins for semi-soft over thermal now exceed the wash plant cost.

    Our Australian resources team has taken a detailed look at the aluminamarket in context of AWC. In our view, as with many markets, China’s rapidbuild in downstream processing capacity has shaped the global outlook foralumina. China remains long alumina capacity and continues to display aclear preference for importing raw materials over refined product. With noshortage of potential bauxite supply, significant integrated and a shift west insmelting capacity, we expect that the alumina price will trade well into the costcurve for some time to come. However, a steady increase in bauxite costswill move this cost curve steadily higher over time.

    The October edition of our Macquarie Commodities Compendium has beenpublished, containing a summary of our views on the entire base, precious,steel, bulk, agricultural and energy commodities spectrum that we cover. Forfurther details please contact your Macquarie sales representative.