Why Chinese Steel Can’t Support Iron-Ore Prices
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Published on May 25,2016 09:28 AM Metals
Steel and iron-ore prices are again on the slide, and any uplift from Chinese demand will be limited
Why Chinese Steel Can’t Support Iron-Ore Prices

WSJ - The polish that suddenly made Chinese steel, and in turn global iron ore, look shiny earlier this year is wearing off. Don’t expect it to come back, except in self-defeating spurts.

Since climbing 54% between the start of the year and late April, front-month futures for Shanghai steel rebar have tumbled about 30%. Steel’s rally helped send the benchmark physical price of its key ingredient, iron ore, 60% higher. It peaked on the very same April day, and has since fallen by 27%.

Chinese regulators have put a damper on the market by increasing margin requirements and transaction fees for both steel and iron-ore futures, which is starting to curtail the speculation that boosted prices earlier in the year.

Though futures speculation lighted the fire, investors should keep one eye on underlying commodity supply, which may have been the original tinder. Steel traders started the year with the lowest level of inventory in four years, producing a squeeze when a seasonal uptick and some stimulus measures drove up demand after the Lunar New Year.

Now supply is catching up. Traders’ inventory of wire rod, a commonly used rolled-steel product, ticked up this month, according to data from Wind. And with the high prices of recent months helping nearly every Chinese steel mill turn a profit, according to a May survey by MySteel—a situation not seen since 2012—expect a surge in production as mills race to capture those margins.

Such extra production won’t be easily absorbed, given that China’s steel demand is due for a seasonal fall next month. That could explain why sentiment among steel-market participants turned negative in May, the first time this year, according to a survey by Macquarie’s Ian Roper.

This being China, a slug of stimulus or a relaxation of the curbs on futures markets could spark another rally in steel and iron ore. But given the lack of sustainable demand and the constant threat of extra supply, those rallies should peter out too.

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