OREANDA-NEWS. February 17, 2016. The benchmark iron ore spot price (62% Fe fines, CFR China) has risen 6% since the start of the year, and is more than 20% above its December low. Supportive factors have included lower seaborne shipments as well as moderate restocking by Chinese steelmakers around the Chinese New Year holiday. With the exception of gold, iron ore has outperformed most major commodities year-to-date. Meanwhile, the FTSE Mining Index is up around 2%, the S&P 500 is down 9%, and the Shanghai Composite has tumbled more than 20%.

Onshore-offshore price divergences may become more regular

The past month has seen periodic divergences between seaborne iron ore prices and onshore Chinese port stock prices. This has been reflected by the lower correlation between SGX and DCE iron ore futures prices, particularly during the second half of January (see Exhibit 4 below). For example, the correlation between SGX and DCE daily settlement prices for the May 2016 contracts reduced from 87.3% in the first half of January to just 49.6% in the second half of the month.

Such divergences are arguably no great surprise. Last year, abundant and consistent seaborne supply meant shorter-term price fluctuations were often primarily driven by demand factors. To date in 2016, supply has played a more active role in spot market price formation. Last month, Vale’s Tubar?o port in Brazil, which accounts for approximately 8% of seaborne iron ore supply, was temporarily closed amidst pollution concerns (Vale was subsequently provided 60 days to explain how it would fix environmental problems at the port). More recently, bad weather slowed iron ore shipments out of Australia. Australia and Brazil alone account for more than 80% of seaborne iron ore supply (see our recent report – Rising Supply Concentration Risk in Iron Ore). Moving forward, divergences between seaborne and domestic Chinese port stock prices may become more regular as supply resumes a greater role in spot market price formation. 

Eyes on the forward curve

The SGX iron ore forward curve – which prices a clear majority of iron ore derivative open interest globally – is an increasingly useful and relevant tool for market participants to assess future price expectations and investor positioning in the seaborne iron ore market.

Year-to-date, the front few contract months have notably risen, in line with spot price trends and reflecting relatively tighter supply. Meanwhile, far-dated contract month prices have fallen by around 10% as major miners continue to cut unit costs and deflationary pressures persist, reducing fundamental marginal cost-based price support. As a result, backwardation of the forward curve has more than doubled since the beginning of January from around US\\$5 (12%) to around US\\$13 (29%).